2007 Annual Report
Financial Highlights
Lehman Brothers Principal Offices Worldwide
In millions, except per common share and selected data. At or for the year ended November 30.
2007
2006
2005
2004
2003
Net revenues
$   19,257
$   17,583
$   14,630
$   11,576
$    8,647
Net income
$    4,192
$    4,007
$    3,260
$    2,369
$    1,699
Total assets
$ 691,063
$ 503,545
$ 410,063
$ 357,168
$ 312,061
$ 123,150
$   81,178
$   53,899
$   49,365
$   35,885
Total stockholders’ equity
$   22,490
$   19,191
$   16,794
$   14,920
$   13,174
Total long-term capital
$ 145,640
$ 100,369
$   70,693
$   64,285
$   50,369
F inancial I nformation
Long-term borrowings
(1)
(2)
$     6.81
$     5.43
$     3.95
$     3.17
Dividends declared
$     0.60
$     0.48
$     0.40
$     0.32
$     0.24
Book value
$    39.44
$    33.87
$    28.75
$    24.66
$    22.09
$    62.63
$    73.67
$    63.00
$    41.89
$    36.11
(4)
Closing stock price
S elected Data
Return on average common
stockholders’ equity
20.8%
23.4%
21.6%
17.9%
18.2%
25.7%
29.1%
27.8%
24.7%
19.2%
Pre-tax margin
31.2%
33.6%
33.0%
30.4%
29.3%
Leverage ratio
30.7x
26.2x
24.4x
23.9x
23.7x
16.1x
14.5x
13.6x
13.9x
15.3x
(5)
Return on average tangible
common stockholders’ equity
(6)
(7)
Net leverage ratio
(8)
Weighted average common
shares (diluted) (in millions)
568.3
578.4
587.2
581.5
519.7
28,556
25,936
22,919
19,579
16,188
Assets under management (in billions) $     282
$     225
$     175
$     137
$     120
(3)
Employees
(1) Long-term borrowings exclude borrowings with remaining
contractual maturities within twelve months of the financial
statement date.
(2) Total long-term capital includes long-term borrowings (excluding any borrowings with remaining contractual maturities within
one year of the financial statement date) and total stockholders’
equity and, at November 30, 2003 preferred securities subject to
mandatory redemption. We believe total long-term capital is useful
to investors as a measure of our financial strength.
(3) Common share and per share amounts have been retrospectively adjusted to give effect for the 2-for-1 common stock split,
effected in the form of a 100% stock dividend, which became
effective April 28, 2006.
(4) The book value per common share calculation includes amortized restricted stock units granted under employee stock award
programs, which have been included in total stockholders’ equity.
(5) Return on average common stockholders’ equity is computed
by dividing net income applicable to common stock for the period
by average common stockholders’ equity. Net income applicable
to common stock for the years ended November 2007, 2006, 2005,
2004 and 2003 was, $4.1 billion, $3.9 billion, $3.2 billion, $2.3 billion
and $1.6 billion, respectively. Average common stockholders’
equity for the years ended November 30, 2007, 2006, 2005, 2004,
and 2003 was $19.8 billion, $16.9 billion, $14.7 billion, $12.8 billion,
and $9.1 billion, respectively.
(6) Return on average tangible common stockholders’ equity is
computed by dividing net income applicable to common stock for
the period by average tangible common stockholders’ equity. Average tangible common stockholders’ equity equals average total
common stockholders’ equity less average identifiable intangible
assets and goodwill. We believe tangible common stockholders’
equity is a meaningful measure because it reflects the common
stockholders’ equity deployed in our businesses. Average identifiable intangible assets and goodwill for the years ended November
30, 2007, 2006, 2005, 2004 and 2003 was $3.8 billion, $3.3 billion, $3.3
billion, $3.5 billion, and $471 million, respectively.
(7) Leverage ratio is defined as total assets divided by total
stockholders’ equity.
(8) Net leverage ratio is defined as net assets (total assets
excluding: (i) cash and securities segregated and on deposit for
regulatory and other purposes; (ii) collateralized lending agreements; and (iii) identifiable intangible assets and goodwill) divided
by tangible equity capital. We believe net assets to be a more
useful measure of our assets than total assets because it excludes
certain low-risk, non-inventory assets. We believe tangible equity
capital to be a more meaningful measure of our equity base as
it includes instruments we consider to be equity-like due to their
subordinated nature, long-term maturity and interest deferral features and excludes assets we do not consider available to support
our remaining net assets. These measures may not be comparable
to other, similarly titled calculations by other companies as a result
of different calculation methodologies. See “Selected Financial
Data” for additional information about net assets and tangible
equity capital.
photography:
$     7.26
Design:
Earnings (diluted)
Ross Culbert & Lavery, NYC
Alamy, Corbis, Bill Gallery, Getty Images, Marian Goldman, Dag Myrestrand/StatoilHydro, Dan Nelken, Peter Ross
Per C ommon S hare Data (3)
Americas
Europe and the Middle East
Asia Pacific
New York
London
Tokyo
(Global Headquarters)
745 Seventh Avenue
New York, NY 10019
(212) 526-7000
(Regional Headquarters)
25 Bank Street
London E14 5LE
United Kingdom
44-20-7102-1000
(Regional Headquarters)
Roppongi Hills
Mori Tower, 31st Floor
6-10-1 Roppongi
Minato-ku,
Tokyo 106-6131
Japan
81-3-6440-3000
Atlanta, GA
Boston, MA
Buenos Aires
Calgary, AB
Chicago, IL
Dallas, TX
Denver, CO
Florham Park, NJ
Greenwich, CT
Hoboken, NJ
Houston, TX
Jersey City, NJ
Lake Forest, CA
Los Angeles, CA
Menlo Park, CA
Mexico City
Miami, FL
Montevideo
Newport Beach, CA
Palm Beach, FL
Philadelphia, PA
Salt Lake City, UT
San Diego, CA
San Francisco, CA
San Juan, PR
São Paulo
Scottsbluff, NE
Seattle, WA
Tampa, FL
Toronto, ON
Washington, D.C.
Wilmington, DE
Amsterdam
Doha-Qatar
Dubai
Frankfurt
Geneva
Istanbul
Luxembourg
Madrid
Milan
Moscow
Paris
Rome
Stockholm
Tel Aviv
Umea
Zurich
Bangkok
Beijing
Hong Kong
Melbourne
Mumbai
Seoul
Shanghai
Singapore
Sydney
Taipei
This Annual Report is printed
on postconsumer recycled paper
manufactured with emission-free
wind-generated electricity.
Lehman Brothers employed a
printer for the production of this
Annual Report that produces
all of its own electricity and is a
certified “totally enclosed” facility
that produces virtually no volatile
organic compound emissions to
the atmosphere.
Letter to Shareholders and Clients
L eft
Richard S. Fuld, Jr.
Chairman and
Chief Executive Officer
R ight
Joseph M. Gregory
President and
Chief Operating Officer
Dear Shareholders and Clients,
In 2007, Lehman Brothers produced another year of record net revenues, net income, and
earnings per share and successfully managed through the difficult market environment. Our global
platform of diversified businesses also produced record performance across each of our business
segments as well as in Europe and Asia.
There were clearly two distinct market environments this year. The first half was relatively favorable, with low interest rates, strong economic growth, and ample liquidity across asset classes.The
second half saw a U.S. housing recession, a credit freeze, and a repricing of credit-related securities.
This caused disruptions in the mortgage markets, a sharp decline in liquidity, and a slowing of
corporate and institutional activity.
In this challenging environment, our clients looked to us more than ever for new and different
solutions and to be their trusted partner. Our client-focused strategy, which we have consistently followed since becoming a public company in 1994, was the key to our success.We remain committed
to creating shareholder value through our focus on the four pillars of our strategy: driving diversified
growth; delivering the whole Firm to our clients; managing risk, capital, and expenses; and preserving and strengthening our culture.Throughout the more favorable market environment of the first
half and the dislocations of the second half, each of the four pillars of our strategy proved invaluable.
We continued to diversify our Firm by expanding our geographic footprint and growing our
targeted businesses.The investments made this year have been a continuation of those we made
over the past decade. In 2007, we opened offices in Doha-Qatar, Dubai, Geneva, Istanbul, Lisbon,
Moscow, São Paolo, and Shanghai. In connection with our acquisitions of Grange Securities in
Australia and Eagle Energy Partners in Texas, we added offices in Sydney, Melbourne, Perth,
Brisbane, and Houston. In 2007, we also invested in many of our businesses, including commodities,
prime services, Investment Management, Investment Banking, and emerging markets, as well as in
our regions.These investments led to strong revenue growth in those targeted areas. Over the past
five years, Investment Banking revenues have grown by 23%, Equities Capital Markets by 40%, and
Investment Management by 36%. During this same period, Asia has grown by 38% and Europe
by 36%. Our revenues have never been more evenly balanced across our businesses, and we have
1
2
LETTER TO SHAREHOLDERS AND CLIENTS
Net Revenues
$ 8.6
$ 11.6
$ 14.6
$ 17.6
$ 19.3
In billions
$ 20
15
10
5
0
03 04 05 06 07
Net Income
$ 1.7
$ 2.4
$ 3.3
$ 4.0
$ 4.2
In billions
$ 4.0
3.0
2.0
1.0
0
03 04 05 06 07
achieved our best-ever geographic diversification, with half of the Firm’s revenues generated outside the Americas.The result of all this
is that we have built a balanced global investment bank – able to withstand the stresses of
rapid shifts in world liquidity flows.
We delivered the whole Firm to our
clients by leveraging our intellectual capital
across each of our divisions and regions. As
you will see throughout this Annual Report,
we provided capabilities where our clients
needed us most, deepened existing relationships, and formed important new ones.
We effectively managed our risk, balance
sheet, and expenses. Ultimately, our performance in 2007 was about our “One Firm”
sense of shared responsibility and careful management of our liquidity, capital commitments,
and balance sheet positions.We benefited from
our senior level focus on risk management
and, more importantly, from a culture of risk
management at every level of the Firm. It also
helped that our senior leadership team has, on
average, worked together for more than two
decades and has successfully navigated difficult
markets before.This experience proved to be
especially valuable this year.
We also remained disciplined in how we
managed our expenses.We maintained our
2006 ratio of compensation and benefits to
revenues, and our ratio of non-personnel
expenses to revenues remains one of the
lowest in the industry.
We preserved and strengthened our
One Firm culture.This culture of teamwork
and ownership enabled us to continue to
build our businesses, to provide the best
solutions for our clients, and to deliver
record results.
Our financial performance in 2007
included the following highlights:
s .ET REVENUES OF BILLION A INCREASE
over the prior year and our fifth consecutive
record;
s .ET INCOME OF BILLION A INCREASE
over the prior year and our fourth consecutive record;
s %ARNINGS PER SHARE OF A INCREASE
over the prior year and a record for the
fourth consecutive year;
s 2ETURN ON EQUITY OF AND A RETURN
ON TANGIBLE EQUITY OF Despite this record performance, our
greatest disappointment in 2007 was that our
share price declined for the first time in five
years.We are more focused than ever on
demonstrating to the markets that we have
a proven ability to continue to grow our
diversified set of businesses, manage risk and
capital effectively, and deliver strong results in
all market environments.
Our Businesses
In Capital Markets – Fixed Income and
Equities – we posted record revenues for the
fifth year in a row with significant growth
in derivatives, foreign exchange, and interest rate products. Fixed Income faced the
greatest challenge from the difficult credit
markets, with our mortgage origination and
securitization businesses sharply impacted
by the housing market downturn. Given the
industry dynamics, we restructured our global
mortgage origination business and closed both
OUR 53 SUBPRIME COMPANY ".# -ORTGAGE
and our Korea Central Mortgage business.
As a result of this difficult environment, our
Fixed Income net revenues fell by 29% to
BILLION THE lRST ANNUAL DECLINE IN NINE
years. Despite the dislocations, our business
continued to be recognized for excellence and
ranked #1 by a leading industry consultant in
U.S. fixed income market share, penetration,
sales, research, trading, and overall quality.We
have maintained our leading position in fixed
income benchmarks, ranking #1 in fixed
income indices by Institutional Investor every
year since that survey began in 1997.The Firm
also achieved a #1 ranking for the eighth
consecutive year in the Institutional Investor
LEHMAN BROTHERS 2007 ANNUAL REPORT
Corporate Citizenship
Strong corporate citizenship is a key
element of our culture.We actively leverage
our intellectual capital, network of global
relationships, and financial strength to help
address today’s critical social issues.
Earnings per Share
(Diluted)
$ 3.17
$ 3.95
$ 5.43
$ 6.81
$ 7.26
$,& ,TDS BILLION INITIAL PUBLIC OFFERING
the largest IPO ever in India. In corporate
long-term investment grade debt, we were
lead manager on three of the top 10 offerings,
and in high yield, we were lead manager on
six of the top 10. In initial public offerings, our
lead-managed volume for the year rose 17%,
and we were the #1 underwriter of U.S. IPOs.
In convertible offerings, we were lead manager
on two of the top five offerings.
Investment Management revenues rose
TO A RECORD BILLION IN 0RIVATE
Investment Management and Asset Management each grew revenues by more than 20%.
Within Asset Management, our Alternative and
Private Equity related revenues both also grew
by more than 20%.We enhanced our investment offerings for institutional and high net
worth clients, helping to increase assets under
MANAGEMENT TO A RECORD BILLION UP from 2006 and the third consecutive year
OF PLUS GROWTH7E CONTINUED TO GAIN
important client assignments, including a €
million mandate from the Fonds de Réserve
pour les Retraites, France’s largest retirement
reserve fund, to invest in diversified private
equity funds.We also continued to expand
and create new alternative investment offerings for individuals and institutions, launching
the Firm’s first publicly traded private equity
vehicle, Lehman Brothers Private Equity
0ARTNERS ,IMITED AND RAISING A BILLION
fund to invest in leveraged loans.We also
acquired Lightpoint Capital, adding depth to
our fixed income portfolio management and
research capabilities, and took a 20% stake in
the D.E. Shaw group, a highly respected global
investment and technology development firm.
$8
6
4
2
0
03 04 05 06 07
Book Value per
Common Share
$ 22.09
$ 24.66
$ 28.75
$ 33.87
$ 39.44
All-America Fixed Income Research poll.
.OTABLY OUR &IXED )NCOME SALES CREDIT
volumes, a good measure of how we delivered
for our clients, rose 40% in 2007.
Our Equities business delivered terrific
results. In 2007, revenues rose 76% to a
RECORD BILLION WITH PARTICULAR STRENGTH
in volatility-related products and execution
services.We were the first firm in history to
execute 4 million electronic trades in one
month on the London Stock Exchange (LSE)
and ranked as the #1 dealer by trading volume
on both the LSE and Euronext.The Firm also
ranked #1 in Institutional Investor’s U.S. Equity
Trading poll and in the same magazine’s
All-America Research Team survey. The Firm
has now achieved the #1 ranking in both
Equity and Fixed Income research for five
consecutive years.We have continued to build
our capabilities in derivatives and ranked #1
in algorithmic trading by Alpha magazine.
The Firm was named the #1 Prime Broker
in Japan and Europe and received 42 “Best
in Class” awards for excellence in the 2007
Global Custodian Prime Brokerage Survey. We
continued to expand our global capabilities
with the acquisition of Brics Securities, a leading institutional equity brokerage firm in India.
Investment Banking posted its fourth
consecutive record year. Revenues rose 24%
TO BILLION AS OUR CLIENTS ENTRUSTED US WITH
their most important transactions. During
the year, we advised on 10 of the 20 largest
announced M&A transactions worldwide,
including the € BILLION SALE OF !". !-2/
to a consortium comprised of The Royal Bank
of Scotland Group, Fortis, and Banco Santander Central Hispano, S.A., the year’s largest
COMPLETED -! TRANSACTION AND !LTRIAS billion spin-off of Kraft Foods, the largest-ever
corporate spin-off.We advised on four of the
top five completed M&A transactions globally.
We also acted as joint bookrunner for China
#ITIC "ANKS BILLION INITIAL PUBLIC OFFERing, the second largest IPO this year, and for
$ 40
30
20
10
0
03 04 05 06 07
3
4
Letter to Shareholders and Clients
$ 36.11
$ 41.89
$ 63.00
$ 73.67
$ 62.63
Closing Stock
Price
$ 75
60
45
30
15
0
03 04 05 06 07
Total Long-Term
Capital*
$ 50.4
$ 64.3
$ 70.7
$ 100.4
$ 145.6
In billions
$ 150
120
90
60
30
0
03 04 05 06 07
*T
otal long-term capital includes long-term
borrowings (excluding any borrowings with
remaining contractual maturities within
twelve months of the financial statement
date) and total stockholders’ equity and,
at November 30, 2003, preferred securities subject to mandatory redemption. We
believe total long-term capital is useful
to investors as a measure of our financial
strength.
Our broad-based philanthropic efforts
focus primarily on promoting healthy and vibrant communities and building a better future
through social and educational investments in
young people. In addition to the grant-making
activities of both the Firm and its Foundations,
our employees are broadly engaged in volunteerism and not-for-profit board service, both
of which we actively support.
In 2007, we formed an ambitious new
partnership with Spelman College, the topranked institution among all historically Black
colleges and universities in the U.S., committing $10 million to create The Lehman
Brothers Center for Global Finance and
Economic Development. We have a number
of significant partnerships to which we have
committed financial resources as well as time,
knowledge, and the experience of our people,
including Harlem Children’s Zone in New
York, the Lehman Brothers Centre for Women
in Business at London Business School,
Oaklands School in London, and NPO
Palette in Tokyo.
Helping address the challenges
created by climate change is another critical
issue. In 2007, the Firm established the
Lehman Brothers Council on Climate
Change, bringing together clients, policymakers, academics, and non-governmental
officials to facilitate constructive dialogue
through regional summits in New York,
London and Tokyo.We also helped clients
address questions about climate change and
sought to mitigate our own impact on the
environment. Our climate-related initiatives
range from increasing our market share in renewable energy project origination to acquiring a majority stake in SkyPower Corporation,
a leading renewable energy company.We
also published two major reports on climate
change that are widely regarded as definitive resources on the business implications
of climate change and related policy.We will
continue to engage on this issue.
Our Employees
Attracting and developing top talent is
critical as we continue to grow, diversify, and
meet new challenges. Our talent management
efforts are aimed at ensuring that we have
the range and diversity of experience – at all
levels of the organization – necessary to
execute our strategy and make our Firm the
employer of choice for the very best talent
around the world.
Career mobility at the Firm is encouraged
within divisions, across divisions, and across
geographic regions, which is critical to ensuring that we put the right people in the right
jobs. Delivering on the goals and aspirations
of our people is also critical to our long-term
success, and in 2007, we hired, trained, and
transferred thousands of employees to deliver
on that promise.
We thank our people for their hard
work and commitment to our client-focused
strategy, our culture of teamwork, and our
ownership mindset.We greatly appreciate the
continued support of our clients and shareholders.We have never had a more diversified
set of businesses or a stronger base of talent.
As we enter 2008, we are proud of how
far we have come and excited about the
opportunities ahead.
Sincerely,
Richard S. Fuld, Jr.
Chairman and Chief Executive Officer
Joseph M. Gregory
President and Chief Operating Officer
February 15, 2008
Diversification
Across Businesses
6
DIVERSIFICATION ACROSS BUSINESSES
Investment Banking
Our Investment Banking Division employs a global
approach geared to each of the markets in which it does
business. Our goal is to be a trusted partner for our clients,
meeting their most important needs by developing and
delivering innovative and tailored solutions.
The evidence that we are delivering value for our
clients is in our results.The Investment Banking Division
posted its fourth consecutive record year in 2007, bolstered
by continued growth in the Americas, increased activity in
Europe and the Middle East, and strong performance in
Asia-Pacific. In the Americas, we strengthened our presence in Canada and added an investment banking team in
Brazil. The division continued to expand its footprint in
Europe and the Middle East by opening an office in Dubai,
securing a license to operate in Qatar, and establishing a
presence in Russia and Turkey. As part of the Firm’s multiyear plan to build a full-scale franchise in the Asia-Pacific
region, we expanded senior banker coverage, as well as
M&A and financial sponsor capabilities, and utilized Global
Finance, aligned with Capital Markets, through our proven
joint venture framework.
During the year, we advised on 10 of the 20 largest
announced M&A transactions worldwide, and on four of
the top five completed M&A transactions. As we extend
our global presence and capabilities, we continue to focus
ing the entire Firm to them.
<
on deepening our partnerships with our clients by deliver-
GE Plastics
Lehman Brothers acted as financial
advisor to General Electric on its
$11.6 billion sale of its GE Plastics unit
to Saudi Basic Industries Corporation.
The transaction represents the thirdlargest U.S. chemicals deal in history.
The Firm has a long-standing relationship with General Electric, having
COMPLETED IN EXCESS OF BILLION OF
fixed income transactions since 2000.
LEHMAN BROTHERS 2007 ANNUAL REPORT
<
!". !-2/
Lehman Brothers acted as financial advisor to
ABN AMRO on its €71 billion sale to a consortium
of Royal Bank of Scotland, Fortis and Banco
Santander, the largest-ever M&A transaction
in the banking sector. In addition, the Firm
ADVISED !". !-2/ ON THE BILLION SALE
of LaSalle Bank, its U.S. subsidiary, to Bank
OF !MERICA THE DISPOSAL OF !". !-2/
Mortgage Group to CitiMortgage, and the
€8.2 billion acquisition of Banca Antonveneta
IN <
Linn Energy, LLC
In 2007, Linn Energy, an independent natural gas
and oil company, priced a $1.5 billion private
investment in public equity (PIPE), the largest
marketed PIPE transaction ever priced. Lehman
Brothers acted as lead placement agent and
Lehman Brothers MLP Opportunity Fund
L.P. acted as the lead investor. In conjuncTION WITH THIS TRANSACTION ,INN HEDGED bcfe of natural gas and oil. Lehman Brothers
Commodity Services acted as sole structuring and execution agent.The Firm was joint
bookrunner on Linn’s IPO in 2006, and has
served as placement agent on two previous
PIPE offerings.
<
Altria Group, Inc.
Lehman Brothers acted as financial advisor to
Altria Group, Inc. ON ITS BILLION SPIN OFF OF
Kraft Foods, Inc., the largest U.S. spin-off and
the second-largest global spin-off in history.
7
8
DIVERSIFICATION ACROSS BUSINESSES
<
Equities
Electronic Trading
Our Electronic Trading Services business
continues to enhance access to liquidity options
Global equity markets continue to deepen, highlighted by
and provide a sophisticated suite of trading
increased use of derivative products, expanded trading
In 2007, we expanded our offering through
the European launch of LX™, our global
crossing platform, which offers access to
dark liquidity.We also broadened our suite
of LMX trading strategies by adding several
new advanced algorithms.
analytics to assist clients in decision-making.
mediums, and explosive volumes. This growing complexity
underscores the necessity of partnering with clients to
provide seamless execution, the highest-quality research,
and robust infrastructure.
Throughout 2007, we made significant progress
in executing our growth and diversification strategy –
balanced investments across regions, segments, and products.
We have invested heavily in our Asia and Emerging
Markets franchises. Our strengthened presence in Asia was
demonstrated by our acquisition of the Institutional Equity
Group of Brics Securities, a leading brokerage firm in India.
In addition, we added significant capabilities in Turkey,
Russia, and Brazil.
As the equities market structure is dynamic, access
to liquidity continues to be a critical resource. Our global
LX™ platform allows clients to access the Firm’s liquidity
directly via a suite of electronic direct access trading algorithms. In December 2007, we announced the acquisition
of Van der Moolen’s specialist book. This new business
emphasizes our commitment to promoting a competitive,
transparent, public market, while increasing liquidity.
We continue to invest in our infrastructure –
<
enhancing our trading platforms and ensuring the highest
China Financial Investor Forum
risk management standards. As our clients continue to seek
In September 2007, Lehman Brothers sponsored
opportunities beyond their home markets, we look to com-
the China Financial Investor Forum in Beijing,
bine local expertise with a superior global infrastructure.
This strategic combination has led us to hold top market
share positions across major markets globally.
which was organized by the financial
publication Caijing magazine.The Forum
showcased the Firm’s capital markets and
investment banking capabilities, introducing our global investors to China’s financial
sector, and providing a platform for in-depth
dialogue among policymakers, senior
corporate management, and investors.
LEHMAN BROTHERS 2007 ANNUAL REPORT
<
VMware Inc.
Lehman Brothers acted as
joint bookrunner on VMware’s
$1.1 billion IPO. VMware is
the global leader in virtualization solutions from the
desktop to the data center.
The offering represents
the largest technology IPO
since 2004 and the largest
software IPO ever.
<
China CITIC Bank
Lehman Brothers was joint global coordinator,
joint bookrunner and joint sponsor for the Hong
Kong Stock Exchange IPO of China CITIC Bank’s
$5.9 billion IPO and concurrent listing in Hong
Kong and Shanghai. The offering was one of the
largest IPOs globally and the largest IPO on
the Hong Kong Stock Exchange for the year.
Capital Markets Prime Services
<
<
MF Global Ltd.
Capital Markets Prime Services is a premier
Lehman Brothers acted as joint bookrunner on
provider of comprehensive financing, servicing,
MF Global’s $2.9 billion IPO. The company is
the largest specialty broker of exchange-listed
futures and options, providing execution and
clearing services for its clients throughout
the world.The offering represented both the
second-largest U.S. IPO since 2003 and the
largest-ever financial technology IPO.
and industry expertise to hedge fund managers,
institutional asset managers and financial institutions. In 2007, we delivered for our Equities
clients by extending our market-leading
scenario-based margining globally, providing
superior short covering, and demonstrating
strong Futures and Quant Prime brokerage
leadership.We also extended our footprint in
Asia, providing increased prime solutions for
our clients.
9
10
DIVERSIFICATION ACROSS BUSINESSES
<
Capital Markets Prime Services
We offer proven expertise and strategic solu-
Fixed Income
tions to our clients at every stage of growth,
across the capital markets. In 2007, Prime
Services leveraged the Firm’s Fixed
Income market share to provide clients
with optimal financing, short and liquid
market coverage.We also provide clients
with access to the Firm’s leading research
and analytics, and an extensive and scalable intermediation and derivatives prime
brokerage offering worldwide.
Our Fixed Income Capital Markets business continued
to partner with clients on some of their most important
transactions in 2007, helping them bring to market
landmark issues such as the world’s first managed constant
proportion debt obligations, the largest-ever United Arab
Emirates dirham-denominated bond, and several of the
biggest and most challenging leveraged transactions.
International Financing Review magazine named Lehman
Brothers its European Leveraged Finance House for the
second time in two years, and Institutional Investor ranked
the Firm #1 for the eighth consecutive year in its AllAmerica Fixed Income Research poll.
We continued to invest in our franchise, appointing
key personnel as we grew our Commodities, Foreign
Exchange and Credit businesses, and expanded our footprint – most notably in the Asia-Pacific region and key
emerging markets.
Amid unprecedented credit market dislocation
and weakening global growth, clients increased the amount
of business they do with us. One measure of how we
delivered for our clients, Fixed Income sales credit volume,
rose 40% in 2007. More than ever, we believe, our risk
management capabilities, strategic advice, and support
and partners.
<
across cycles has been of significant value to our clients
Jebel Ali Free Zone FZE
One of the world’s largest free zones and
logistical hubs, the Jebel Ali Free Zone hosts in
excess of 5,700 companies from more than 110
countries. -ARKETING A BILLION EQUIVALENT
five-year Sukuk through a syndicate which
included Lehman Brothers, the deal saw
such momentum that it was doubled in size.
The deal was the first bookrun Sukuk for
,EHMAN "ROTHERS AND AT !%$ BILLION
was the largest AED-denominated bond
and/or Sukuk ever.
LEHMAN BROTHERS 2007 ANNUAL REPORT
<
Domino’s Pizza, Inc.
On behalf of Domino’s Pizza and its largest
shareholder, Bain Capital, Lehman Brothers
structured and executed an innovative recapitalization plan which included a $1.85 billion whole
business securitization, a bridge loan facility, equity
and bond tender offers, and related hedging
arrangements. The new capital structure
resulted in a unique “public LBO” enabling
Domino’s to use low-cost securitization debt
to fund a special cash dividend.The transaction
was well received, with Domino’s stock trading
up 17% during the recapitalization process.
<
Freddie Mac
Advising Freddie Mac on the alternatives for capital
raising after its third quarter earnings announcement, Lehman Brothers concurrently marketed both
a non-convertible and a convertible offering. The
quality and strength of the demand was such
that Freddie Mac chose to issue only the
non-dilutive non-convertible preferred shares.
7ITH THE BILLION DEAL PRICING AT THE TIGHT
end of guidance and the company’s common
stock appreciating 14.7% during marketing,
the result was an undeniable success for both
Freddie Mac and investors alike.
<
CVS Caremark
CVS Caremark’s $5.5 billion senior notes issue
and Enhanced Capital Advantaged Preferred
Securities (ECAPSSM) offering was the first such
issue from a consumer retail/healthcare company
in the U.S. One of five advisory and capital
markets transactions that Lehman Brothers
executed for CVS in 2007, this transaction
allowed the repayment of borrowings related
to its merger with Caremark.
11
12
DIVERSIFICATION ACROSS BUSINESSES
<
Investment Management
Fulfilling our clients’ varied and increasingly complex
investment needs is the focus of our Investment Management Division, the youngest of our divisons building on
SEVEN DECADES OF EXPERIENCE AT .EUBERGER "ERMAN AND
our heritage in merchant banking.Through the division,
we deliver our intellectual capital in traditional and alternative asset management products and advisory services
to institutional and high net worth clients.
In 2007, we won important institutional mandates
in equities, fixed income, hedge funds, private equity, and
structured products. Within Private Asset Management,
the Total Portfolio Returns (net of fees) of the Equity
#OMPOSITE WAS NEARLY DOUBLE THAT OF THE 30 7E
are doing more with existing clients and adding new
relationships, all on the strength of five simple principles:
s $ELIVER CONSISTENTLY SUPERIOR PERFORMANCE
s #ONTINUOUSLY IMPROVE OUR CAPABILITIES TO MEET
client needs
s $EMONSTRATE STRENGTH ACROSS ASSET CLASSES
s 7ORK ACROSS BUSINESSES TO DELIVER SOLUTIONS
s ,ISTEN
We have measurably strengthened our capabilities,
adding, for example, a global team investing in Real Estate
Investment Trusts based in Amsterdam, a significant team
of Infrastructure investors within Private Equity, and a
TEAM INVESTING IN EMERGING MARKETS BASED IN .EW9ORK
We have also attracted top talent from other parts of the
Firm to play strategic roles in the division. Within the
division, we have also moved talented individuals across
geographies to better source alpha for our clients.
In all of this, we have demonstrated a continuing
ability to synchronize talent to value-creating opportunity
and to deploy intellectual capital where our clients need us.
Lehman Brothers Private Equity
In 2007, our Private Equity business increased
assets under management 95% and raised
approximately $11 billion. Our success is
grounded in our historic track record and
commitment to future performance. Our
funds include the Emerging Manager Fund,
which invests in emerging private equity
managers with a focus on minority- and
women-owned firms; and Lehman Brothers
Private Equity Partners, the Firm’s first-ever
publicly listed Private Equity Fund of Funds.
In 2007, the business also closed its largest
fund to date, Merchant Banking IV, with
MORE THAN BILLION IN COMMITMENTS
LEHMAN BROTHERS 2007 ANNUAL REPORT
<
Fonds de Réserve pour les
Retraites (FRR)
In June 2007, FRR, the French Public Reserve
Fund, awarded Lehman Brothers a mandate of
€500 million to invest in a diversified portfolio
of North American private equity funds. The
mandate win, a significant gain against
fierce competition, was a joint effort
between our capital markets team based in
Paris, which has an ongoing relationship
with the FRR, and the private equity
BUSINESS IN ,ONDON $ALLAS AND .EW9ORK
<
Increasing Our Capabilities
In 2007, we significantly enhanced the investment management capabilities we offer our
clients through several targeted acquisitions
and minority stakes in selected investment
managers. The Firm purchased a 20%
interest in the top-level investment management entities of the D.E. Shaw group, the
global investment and technology developMENT lRM AND A INTEREST IN 3PINNAKER
Capital Group, an investor in emerging
markets. The Firm also acquired high net
worth money manager H.A. Schupf & Co.
and Lightpoint Capital Management, a
leveraged loan investment manager.
<
Universities Superannuation Scheme
The Universities Superannuation Scheme (USS) is
a pension scheme for staff at approximately 360
universities in Great Britain, making it the UK’s
second-largest pension fund. Lehman Brothers
Private Equity began its relationship with
533 IN THE !UTUMN OF WHEN 533
committed themselves to the Lehman Brothers
Co-Investment Fund. USS subsequently
committed themselves to Merchant Banking IV.
13
14
DIVERSIFICATION ACROSS REGIONS
Driving diversified growth is one of the pillars
of our strategy, and we continue to build our
capabilities in all the major investment bank-
We continue to strengthen
local capabilities for our
clients around the world.
ing markets worldwide. In 2007, we entered
or significantly expanded our presence in
markets such as Australia through our acquisition of Grange Securities; Canada by opening
offices in Calgary and Toronto; India by
adding a new office in Mumbai; and Europe
and the Middle East by opening offices in
Turkey and Russia and establishing a presence
in Dubai and Qatar. As a result of our continued investments in expanding our global
franchise, we reported record results in our
Europe and the Middle East and Asia-Pacific
REGIONS AND OF OUR NET REVENUES FOR THE
year came from outside the Americas.We have
built a balanced platform, diversified not only
by business but also by region.
Diversification
Across Regions
16
DIVERSIFICATION ACROSS REGIONS
Americas
<
In 2007, the Firm expanded its
reach in the Americas by adding
capabilities in Brazil and increasing
resources in Canada, and strengthened its platform through targeted
acquisitions and the taking of
minority stakes.We continued to
offer our clients the very best advice,
expertise and execution, advising on
some of the region’s most important
transactions of the year.
GlobalSantaFe
In 2007, GlobalSantaFe agreed to combine with
Transocean in a $53.3 billion merger of equals.
In addition to acting as lead financial advisor to GlobalSantaFe, the Firm rendered
a fairness opinion and provided financing
ON A BILLION BRIDGE LOAN FACILITY 4HE
transaction represented the largest oilfield
service transaction and largest energy
company recapitalization ever, and created
the second-largest oilfield service company
in the world.
<
DuPont Fabros Technology, Inc.
Lehman Brothers acted as joint bookrunner on
DuPont Fabros’ $736.6 million IPO. DuPont
Fabros is a leading owner, developer, operator and manager of wholesale data centers in
the U.S., and leases its data centers primarily
to investment-grade international technology
companies.The offering represented one of
the largest REIT IPOs ever.
LEHMAN BROTHERS 2007 ANNUAL REPORT
<
Och-Ziff Capital
Management Group
Lehman Brothers acted as joint global coordinator and joint bookrunner for Och-Ziff’s $1.2 billion
IPO. The offering represented the first hedge
fund manager IPO in the U.S. Och-Ziff is a
leading international, institutional, alternative
asset management firm. Lehman Brothers has
a strong relationship with the firm, serving as
one of its top capital markets counterparties
and utilizing our Capital Markets Prime
Services business to provide Och-Ziff with a
full suite of products, services, and expertise.
InterGen
<
<
Brazil Team
InterGen’s multi-denomination $3.5 billion equiva-
In 2007, Lehman Brothers hired a team of invest-
lent financing package was successfully priced in
ment banking professionals from a leading Brazilian
the headwinds of a radically evolving high yield
investment banking advisory firm. The team
brought more than 30 years of investment
banking experience to the Firm.The hiring
underscores the Firm’s commitment to expanding and strengthening our capabilities in Brazil,
reflecting our efforts to better serve our global
clients locally.
market. Lehman Brothers combined its global
power, project finance and high yield cababilities to create a unique, “hybrid” debt structure
which obtained improved credit ratings relative to traditional corporate structures.Targeting a unique investor base ensured successful
execution and outperformance in the volatile
aftermarket – a win-win for the issuer, its
owners AIG Highstar Capital II and Ontario
Teachers’ Pension Plan, and investors alike.
17
18
DIVERSIFICATION ACROSS REGIONS
Americas
<
<
Continued
Eagle Energy Partners I, L.P.
Reflecting the importance of the commodities
Kohlberg Kravis Roberts &
Co. and Texas Pacific Group
market, in 2007 Lehman Brothers acquired
Lehman Brothers acted as financial advisor
Eagle Energy Partners, one of the largest
to KKR and Texas Pacific Group on their
providers of energy marketing and services.
$45 billion acquisition of TXU Corp., the
The resulting platform broadens our ability to facilitate risk management for our
clients, and allows the Firm to better serve
our Investment Banking client base by
seamlessly delivering an integrated suite
of commodities products to clients in
partnership with Fixed Income.
largest leveraged buyout in history. The
Jarden Corporation
In early 2007, Lehman Brothers advised Jarden
on a series of financing transactions that took
full advantage of the issuer-friendly environment. (AVING PRICED AN UPSIZED million accelerated offering, Jarden revisited
THE MARKET THREE DAYS LATER FOR A million add-on. The transaction was the
most successful similarly rated high yield
offering in two years. Later in the year,
Lehman Brothers served as exclusive
financial advisor and debt provider on
*ARDENS BILLION ACQUISITION OF + )NC
<
Firm also provided financing in support
of the acquisition and invested equity
alongside the sponsors. Lehman Brothers
has worked closely with both KKR and
Texas Pacific Group on a number of
landmark acquisitions.
LEHMAN BROTHERS 2007 ANNUAL REPORT
SkyPower Corp.
<
<
Ford Motor Company
In 2007, Lehman Brothers and its Private Equity
In December 2006, Ford Motor Company and
business acquired a significant equity stake in
its affiliates successfully raised more than
SkyPower, a leading Canadian renewable energy
$8 billion in senior notes and convertible debt
developer. SkyPower is developing a substantial
financing, along with more than $10 billion
portfolio of wind and solar power projects
through an innovative strategy which includes
COMMUNITIES &IRST .ATIONS LOCAL MUNICI
palities, and large corporate users of energy
across Canada.This investment reinforces the
Firm’s commitment to renewable energy and
sustainable development.
of bank credit facilities. Based on Ford and
Lehman Brothers’ strong relationship, the
Firm was selected as a lead investment
bank across all of Ford’s offerings. Demand
for the senior notes offering (Ford Motor
Credit’s first 10-year transaction in three
years) was significant, allowing the Company to upsize the transaction as well as
tighten pricing below guidance.
19
20
DIVERSIFICATION ACROSS REGIONS
Europe and the Middle East
<
In 2007, we deepened the penetration of our business expertise into
established European markets and
expanded into new product areas
and geographies, including Turkey,
Russia and the UAE.We intensified
our focus on winning market share,
particularly in the Equities space,
with Lehman Brothers the #1 trader
by volume across every major
European exchange this year. Once
again, Europe and the Middle East
produced record revenue contributions for the Firm’s full year 2007
results.
.ANETTE 2EAL %STATE 'ROUP
Lehman Brothers Real Estate Partners (LBREP)
enjoys a strong partnership with Nanette,
a Dutch company listed on the AIM at the
London Stock Exchange. In February 2007,
,"2%0 ACQUIRED A STAKE IN .ANETTE
building on the various joint venture projects
already established in Poland and Hungary.
)N .OVEMBER ,"2%0 INVESTED IN FOUR OF
THE lVE PROJECTS .ANETTE ACQUIRED IN 2OMANIA )N TOTAL .ANETTE IS IN THE PROCESS OF
developing approximately 18,000 residential
units in Central and Eastern Europe.
LEHMAN BROTHERS 2007 ANNUAL REPORT
<
The Republic of France
Creating the second-largest utility in
Europe with a combined 13.7 million
energy customers and 80 million
water customers around the world,
the merger of Gaz de France and
SUEZ will create a global leader in
energy and environmental services.
Advising Gaz de France’s majority shareholder, the Republic of
France, Lehman Brothers played
an important role in the €
billion merger, one of the largest
announced during the year.
<
Cerberus Capital Management
Based on Lehman Brothers’ strong relationship
with Cerberus Capital Management, the Firm was
selected as lead advisor, financing provider and also
a co-investor in a Cerberus-led consortium on the
€3.2 billion acquisition of Austria-based BAWAG
P.S.K. The €1.9 billion acquisition financing
arranged by Lehman Brothers represents the
largest-ever mezzanine debt facility syndicated
in Europe. The acquisition both complemented Cerberus’s existing portfolio of international
financial institutions and presented Cerberus
with significant new opportunities.
21
22
DIVERSIFICATION ACROSS REGIONS
Europe and the Middle East
<
Expanding Our Footprint
Reflecting the increasingly global nature of our
clients, Lehman Brothers continued to invest in
its platform during 2007. The Firm entered
new markets, opening offices in Dubai and
Turkey, and appointing key business heads
in these countries and in Russia. In order
to better serve the needs of our existing
clients, we also significantly upgraded several
offices, moving to new locations in Paris and
Madrid, and opening an office in Geneva
for the first time.
<
.ORWEGIAN 'OVERNMENT
Announced in December 2006, the $29 billion
merger of NorskHydro’s oil and gas business
with Statoil created the world’s largest offshore
operator. 7ITH THE .ORWEGIAN 3TATE AS
majority shareholder, the combined entity
HAD AN ENTERPRISE VALUE OF BILLION4HE
merger was one in a series of transactions
on which Lehman Brothers advised the
.ORWEGIAN GOVERNMENT
Continued
LEHMAN BROTHERS 2007 ANNUAL REPORT
Munich Re Group
<
<
GlaxoSmithKline
As the company’s sole financial advisor on the
Despite an uncertain economic outlook and market
$1.3 billion acquisition of The Midland Company,
volatility, GlaxoSmithKline launched its first long-dated
Lehman Brothers assisted Munich Re Group in
sterling issue in five years. With an oversubscribed
book of top-tier sterling investors, Lehman Brothers
was able to price the £1 billion issue at the tight
end of guidance and extend GlaxoSmithKline’s
DEBT MATURITY TO YEARS!S THE LARGEST LONG DATED
corporate sterling issue to date, the transaction underscored GlaxoSmithKline’s proven track record
as a benchmark issuer and Lehman Brothers’ execution expertise in challenging market conditions.
achieving one of its strategic goals. The acquisi-
tion provided the Munich, Germany-based
global insurance group with one of the leading
specialty reinsurance businesses in the U.S.,
WITH A PRESENCE IN STATES AND CONSISTENT
cross-cycle growth.The acquisition built on
Munich Re’s existing expertise and gave it
leading positions in targeted areas of growth.
23
24
DIVERSIFICATION ACROSS REGIONS
Asia-Pacific
In 2007, we continued to increase the
depth and diversity of our offering to
clients in the Asia-Pacific region, with
expanded capabilities in structured
products, Capital Markets sales and
Investment Banking. The Firm
complemented its geographic reach
with the acquisitions of Brics Securities in India and Grange Securities
in Australia, and the opening of an
additional China office in Shanghai.
In existing geographies, the Firm
secured new licenses across multiple
markets, enabling deeper local access.
Lehman Brothers Asia-Pacific
posted its fifth consecutive year of
record performance in 2007.
<
China Petroleum & Chemical
Corporation (Sinopec)
Lehman Brothers acted as the sole global
coordinator and joint bookrunner on Sinopec’s
HK$11.7 billion Zero Coupon Convertible Bond
offering, the largest international convert-
ible bond offering ever in Asia ex-Japan
and the largest-ever natural resources
convertible bond offering in Asia.The
Firm had previously acted as independent
financial advisor and financial advisor, respectively, to Sinopec subsidiary companies
Beijing Yanhua and Zhenhai Refining
when they were taken private by Sinopec
IN AND <
Edelweiss Capital
<
Taihan Electric Wire Co. Ltd.
Lehman Brothers acted as joint bookrunner on
Lehman Brothers acted as sole financial
Edelweiss Capital’s $175 million IPO on the
advisor to Taihan and provided a commit-
Indian exchanges (NSE and BSE). Lehman
ment facility in support of Taihan’s offer
Brothers has partnered with Edelweiss in
many areas and played an important role in
shaping and communicating the unique
story of this diversified modern Indian
investment bank to investors, which
helped to achieve an exceptionally
successful transaction in the Indian
financial services space.
on its €392 million acquisition of a 9.9%
stake in Prysmian. We delivered the full
capabilities of our global platform to
support our client’s cross-border needs
on this transaction. The Firm had
previously acted as joint bookrunner
ON 4AIHANS MILLION CONVERTIBLE
OFFERING IN LEHMAN BROTHERS 2007 ANNUAL REPORT
<
Brics Securities
Underscoring the strategic importance
of India as a key growth market for
the Firm, we acquired the Institutional
Equity Group of Brics Securities, a
leading brokerage firm in India. The
acquisition significantly increased
our presence in the country, and
the resulting platform in Mumbai
enables the Firm to offer our clients
more sophisticated and comprehensive services throughout India.
The transaction demonstrates our
commitment to building a strong
franchise in India.
26
DIVERSIFICATION ACROSS REGIONS
Asia-Pacific
<
Kirin Holdings Company,
Limited
Lehman Brothers acted as financial advisor to
Kirin on its $2.5 billion acquisition of all shares
of National Foods Limited, Australia’s leading
manufacturer of dairy and juice products,
from San Miguel Corporation.The acquisition gave Kirin immediate market leading
positions in the Australian dairy and juice
market and ownership of some of the
most popular food and beverage brands in
Australasia, with over 100 years of heritage.
Caliburn Partnership Pty Ltd. also advised
Kirin on the transaction.
<
Olympus Capital Holdings Asia
Lehman Brothers acted as financial advisor
to Olympus on its sale of Arysta LifeScience
Corporation to entities controlled by The Permira
Funds for ¥250 billion. The Firm also acted as
sole stapled financing provider, supporting
the sale with teams dedicated to multiple
bidders.The transaction was the largest
announced leveraged buyout in Japan in
2007 and is among the country’s largest ever.
Continued
LEHMAN BROTHERS 2007 ANNUAL REPORT
<
7KH'/)*URXS
Lehman Brothers acted as senior
bookrunner on DLF’s $2.25 billion
IPO on the Indian exchanges
(NSE and BSE). The offering
represented, at that time, the
largest-ever IPO in India.
DLF is a leading real estate
developer in India, with its
primary business focused on
the development of residential,
commercial and retail properties in India.The Firm has built
a strong relationship with DLF,
and our role in the IPO and
three other financing transactions reflects the strength of
our India franchise.
6KDQJKDL2IÀFH2SHQLQJ
<
<
*UDQJH6HFXULWLHV/LPLWHG
China is a key component of Lehman Brothers’
Expanding into the Australian market, the Firm
strategy in the Asia-Pacific region. As the
acquired Grange Securities Limited, a leading
fastest-growing major economy in the
world, China presents many exciting
business opportunities for the Firm. In
February 2007, Lehman Brothers added
a Shanghai representative office to its
footprint in China, demonstrating our
strong commitment to this vital market.
investment and advisory firm in Australia.
The transaction expands our geographic
reach, increases the capabilities of our
Asia-Pacific operations, and provides
Grange’s broad range of clients with access
to the global resources and capabilities of
Lehman Brothers.
27
28
Sustainability and Philanthropy
Sustainability
As a global corporate citizen,
Lehman Brothers is committed to
addressing the challenges of climate
change and other environmental issues
which affect our employees, clients, and
shareholders alike. It is critical that we
continue to develop initiatives to focus
on these challenges facing our environment now and in the future.
in efforts to find environmentally
sustainable business solutions and
develop market-based mechanisms that
will respond to and reduce the effects
of climate change. Examples of these
business models include participation
in carbon-related markets and managing socially responsible investment
funds which utilize criteria such as
In 2007, the Firm created
The Lehman Brothers Council on
Climate Change and appointed
Theodore Roosevelt IV, who brings
to the role a deep knowledge of
environmental issues, as its chairman.
By harnessing the Firm’s global resources, the Council is uniquely
positioned to accelerate the understanding of climate change issues. In
December, the Council held the first
of three regional summits in New
York. These summits serve to facilitate
constructive dialogue on global climate
change policy among our clients,
government officials and academics.
The Firm is increasingly engaged
identifying environmentally responsible
leaders. In addition, we have a strong
and growing platform in underwriting,
advising, and investing in renewable
energy companies. The Firm is using
these initiatives to engage the strong
interest shown by our employees in
addressing environmental issues.
Our environmental initiatives
also address how climate change has
and will affect our clients. In 2007,
Lehman Brothers published two
groundbreaking studies on the effects
of climate change on business, entitled
The Business of Climate Change I and II.
The studies, authored by Dr. John
Llewellyn, the Firm’s senior economic
policy advisor, were written to help
clients better understand the effect
that climate change will have on the
business landscape. They included
significant contributions from Lehman
Brothers equity analysts who assessed
the impact of climate change on
specific industry sectors.
The Firm anticipates that regulation will be put in place to address,
slow, and reverse the impact of climate
change, and that these policies will
drive an economic transformation. This
transformation represents both opportunities and challenges for the Firm’s
clients. The Firm will be well positioned to help our clients take advantage of the opportunities and face the
challenges posed by this regulation.
We are also looking inward. In
2007, Charlotte Grezo, an expert in
socially responsible business practices,
joined the Firm as global head of
Sustainability and president of the
Council on Climate Change. In
addition to overseeing the Council’s
activities, she will further the development of the Firm’s own environmental
policy and strategy.
We have executed and will
continue to execute on initiatives that
mitigate the environmental impact of
our operations, including investigating
and implementing ways to reduce our
energy consumption. We are already
seeing results. Our headquarters
buildings in New York and London
have been awarded the Carbon Trust
Energy Efficiency Accreditation
Scheme, recognizing the Firm’s efforts
to manage energy use and reduce
carbon emissions.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Philanthropy
Where will you make your mark?
At Lehman Brothers, that is what we ask
all of our employees.
In 2007, employees responded as
they always have, continuing the Firm’s
proud history of charitable giving and
community involvement.Thousands of
our employees participated in the Firm’s
2007 Employee Giving Campaign,
PERSONALLY CONTRIBUTING MORE THAN million to the Lehman Brothers Foundations for grants. Of those grants, more
than 82% were awarded to organizations
recommended by our employees. On
the ground, more than 8,000 employees
volunteered in a community activity,
and hundreds more served the community on not-for-profit boards and in
leadership groups.
Our focus remains: work with
organizations that give children a chance
to succeed, help the sick, or benefit the
arts. In doing so, we are continuing our
mission to support our communities.
The following are some highlights of our
philanthropic efforts in 2007:
Lehman Brothers has a strong relationship with The Posse Foundation, a
program that prepares urban high school
students for enrollment at top-tier
universities. In addition to monetary
support, the Firm has hired more than
200 Posse scholars over the years, both
as interns and full-time employees, and
one of our employees serves on the
organization’s board of directors.
A Lehman Brothers Foundation
grant will support the construction of
a medical center at the newly built
SOS Children’s Village in Malawi.The
Village provides permanent, family-style
HOUSING FOR ORPHANED ABANDONED
and neglected children.The new medical
facility will provide annual medical and
counseling services to an estimated
20,000 children and adults in the
surrounding area.
Society for AIDS Care is the only
community-based facility in Hong Kong
that provides direct care to people living
with HIV and their families. At the
recommendation of one of our employees, a grant from The Lehman Brothers
Foundation funded a training program
for AIDS healthcare workers.
CLIC Sargent is the UK’s leading
children’s cancer charity, supporting
children with cancer and their families
by providing care during and after
treatment. In 2007, Firm employees
raised nearly €130,000 for CLIC, a
Lehman Brothers UK employee charity
partner, through fundraising events
and activities.
Our employees in Milan have
partnered with Centro di Aiuto al
bambino maltrattato e alla Famiglia in
crisi (CAF), the first private facility in
Italy to provide shelter for abandoned
and abused children. More than half of
the employees in our Milan office took
part in volunteer opportunities, and a
Lehman Brothers Foundation Europe
grant will expand the counseling services
CAF provides to children and their
families.
The Firm initiated the Community
Leadership Program. More than 20 of
OUR .EW9ORK BASED SUMMER ANALYSTS
worked with two local community
organizations, renovating schools and
rejuvenating public parks, and preparing
and delivering meals to homebound
patients.The new program offered our
summer analysts an opportunity to
experience an important part of the
Firm’s culture: giving back to the
communities in which we live and work.
29
30
TALENT MANAGEMENT AND PARTNERING WITH SPELMAN COLLEGE
Talent Management
Our people are our most valuable
asset. Our focus is not solely on
attracting and developing top talent;
putting the right people in the right
jobs is critical to our ability to deliver
the full capabilities of our global
franchise.
Career mobility is vital to ensuring
that we are able to fully leverage the
skills and experiences of our people.
This mobility happens within and
across divisions and geographic regions,
at all levels of the Firm, including our
Executive Committee. For example, in
2007 we appointed Erin Callan chief
financial officer and added her to the
Developing top talent and
putting the right people in the
right jobs is critical to our
ability to deliver the Firm.
Executive Committee. She had previously headed Global Hedge Fund
Coverage within the Investment
Banking Division. In connection with
this appointment, Chris O’Meara,
our former chief financial officer, was
named global head of risk management.
These individuals are among the
many examples of the Firm putting the
right talent where it is needed most. In
2007, we transferred more individuals
into new positions than ever before.
By moving top talent from within one
of our business segments into another,
we strengthen our Capital Markets,
Investment Banking, and Investment
Management businesses with an influx
of new experiences and expertise.
Career mobility also plays a vital role in
our continuing commitment to driving
diversified growth geographically. Our
India franchise has been strengthened
by moving key management from
other regions and areas of the Firm,
and people from across the Firm have
contributed to the continued expansion
of our Asia-Pacific platform. By moving
our people into these areas, we also
ensure that the Firm’s culture remains
strong as we continue to grow.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Partnering with Spelman College
In 2007, Lehman Brothers announced a groundbreaking partnership
with Spelman College. Spelman is the
#1-ranked institution among all
historically Black colleges and universities in the country by U.S. News and
World Report. The development of the
Lehman Brothers Center for Global
Finance and Economic Development
at Spelman College will create a new
model that will prepare students for
active participation in the global
marketplace and increase the pipeline
of women ready to enter the financial
sector.
As part of this endeavor, Lehman
"ROTHERS HAS COMMITTED MILLION
as well as ongoing funding support
and professional expertise to create
the Center. In support of the Center’s
enhanced curriculum offerings,
Lehman Brothers and Spelman are
working together to attract and retain
top faculty to develop a rich interdisciplinary curriculum, prioritizing core
subjects that have not been traditionally
offered by the college. Additionally,
this partnership will:
s #REATE A NEW INTERDISCIPLINARY MINOR
focused on global finance and economic development, that will evolve
into a full major over the next several
years;
s %STABLISH A ,EHMAN "ROTHERS 3CHOLARS
Program to provide scholarships to
help talented students complete their
education;
s 0ROVIDE OPPORTUNITIES FOR INTER
national internships in finance;
s /FFER AN INVESTMENT BANKING
immersion program for Spelman
sophomores to introduce them to
a career in global finance;
s #ONDUCT PERIODIC SIMULATED PORTFOLIO
management competitions;
s -ATCH 3PELMAN STUDENTS FOCUSED
on business and finance to Lehman
Brothers career mentors;
s #OLLABORATE WITH 3PELMAN FACULTY
and other experts to develop initiatives around economic development /
urban development / microfinance as
well as diversity issues; and
s ,EVERAGE ,EHMAN "ROTHERS IN HOUSE
expertise and network of global
experts to create a speaker series,
among many other projects.
Like our partnerships with Harlem
#HILDRENS :ONE IN .EW9ORK THE
Lehman Brothers Centre for Women
in Business at London Business School,
and Oaklands School in London, our
collaboration with Spelman College
underscores the Firm’s commitment to
leveraging our institutional knowledge
and expertise to ensure the future
success of this initiative.
Joe Gregory, President
and Chief Operating
Officer, Lehman
Brothers, Dr. Beverly
Tatum, President,
Spelman College,
and Scott Freidheim,
Co-Chief Administrative Officer, Lehman
Brothers, celebrate
the groundbreaking
partnership between
the Firm and Spelman
College.
31
33
Management’s Discussion and
Analysis of Financial Condition
and Results of Operations
33 Introduction
33 Forward-Looking Statements
34 Executive Overview
36 Certain Factors Affecting
Results of Operations
38 Critical Accounting
Policies and Estimates
41 Consolidated
Results of Operations
45 Business Segments
51 Geographic Revenues
Financial
Report
53 Liquidity, Funding
and Capital Resources
60 Contractual Obligations and
Lending-Related Commitments
61 Off-Balance-Sheet Arrangements
64 Risk Management
70 2-for-1 Stock Split
70 Accounting and Regulatory
Developments
73 Effects of Inflation
74
Management’s Assessment of Internal
Control over Financial Reporting
75
Report of Independent Registered
Public Accounting Firm
76
Report of Independent Registered
Public Accounting Firm
77
Consolidated Financial Statements
84
Notes to Consolidated Financial Statements
124
Selected Financial Data
126
Other Stockholder Information
127
Corporate Governance
128
Senior Leadership
129
Locations
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
M A N AG E M E N T ’ S D I S C U S S I O N A N D A N A LY S I S
OF FINANCIAL CONDITION AND
R E S U LT S O F O P E R AT I O N S
INTRODUCTION
Lehman Brothers Holdings Inc. (“Holdings”) and subsidiaries (collectively, the “Company,” the “Firm,” “Lehman Brothers,” “we,” “us” or
the London, Tokyo, Hong Kong, Frankfurt, Paris, Milan and Australian
stock exchanges.
“our”) serves the financial needs of corporations, governments and
This Management’s Discussion and Analysis of Financial Condition
municipalities, institutional clients and high net worth individuals world-
and Results of Operations (“MD&A”) should be read together with the
wide with business activities organized in three segments, Capital
Consolidated Financial Statements and the accompanying Notes con-
Markets, Investment Banking and Investment Management. Founded in
tained in this Annual Report on Form 10-K for the fiscal year ended
1850, Lehman Brothers maintains market presence in equity and fixed
November 30, 2007 (the “Form 10-K”). Unless specifically stated oth-
income sales, trading and research, investment banking, asset manage-
erwise, all references to the years 2007, 2006 and 2005 in this MD&A
ment, private investment management and private equity. The Firm is
refer to our fiscal years ended November 30, 2007, 2006 and 2005, or
headquartered in New York, with regional headquarters in London and
the last day of such fiscal years, as the context requires. All share and per
Tokyo, and operates in a network of offices in North America, Europe,
share amounts have been retrospectively adjusted for the two-for-one
the Middle East, Latin America and the Asia-Pacific region. We are a
common stock split, effected in the form of a 100% stock dividend,
member of all principal securities and commodities exchanges in the
which became effective April 28, 2006. For additional information, see
U.S., and we hold memberships or associate memberships on several
“2-for-1 Stock Split” in this MD&A and Note 10, “Stockholders’
principal international securities and commodities exchanges, including
Equity,” to the Consolidated Financial Statements.
F O R WA R D - L O O K I N G S TAT E M E N T S
Some of the statements contained in this MD&A, including those
relating to our strategy and other statements that are predictive in nature,
of these risks, see “Certain Risk Factors Affecting Results of Operations”
below as well as “Risk Factors” in Part I, Item 1A in the Form 10-K.
that depend on or refer to future events or conditions or that include
As a global investment bank, the nature of our business makes pre-
words such as “expects,” “anticipates,” “intends,” “plans,” “believes,” “esti-
dicting future performance difficult. Revenues and earnings may vary
mates” and similar expressions, are forward-looking statements within
from quarter to quarter and from year to year. Caution should be used
the meaning of Section 21E of the Securities Exchange Act of 1934, as
when extrapolating historical results to future periods. Our actual results
amended. These statements are not historical facts but instead represent
and financial condition may differ, perhaps materially, from the antici-
only management’s expectations, estimates and projections regarding
pated results and financial condition in any such forward-looking state-
future events. Similarly, these statements are not guarantees of future
ments and, accordingly, readers are cautioned not to place undue
performance and involve certain risks and uncertainties that are difficult
reliance on such statements, which speak only as of the date on which
to predict, which may include, but are not limited to, market risk, inves-
they are made. We undertake no obligation to update any forward-
tor sentiment, liquidity risk, credit ratings changes, credit exposure and
looking statements, whether as a result of new information, future events
operational, legal, regulatory and reputational risks. For further discussion
or otherwise.
33
34
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
E X E C U T I V E O V E RV I E W 1
SUMMARY OF RESULTS
On the basis of a record first half and a reasonably successful naviga-
from $8.4 billion in 2006. This decline corresponds to the deterioration
tion of difficult market conditions in the second half, we achieved our
follow-on dislocation in the broader credit markets that occurred later
fourth consecutive year of record net revenues, net income and diluted
in the fiscal year. Investment Banking segment net revenues increased
earnings per common share in 2007. Net income totaled $4.2 billion,
24% to $3.9 billion in 2007 from $3.2 billion in 2006, representing
$4.0 billion and $3.3 billion in 2007, 2006 and 2005, respectively, increas-
record Debt and Equity underwriting-related activities as well as record
ing 5% in 2007 and 23% in 2006 from the corresponding 2006 and 2005
Advisory Services revenues. These results reflect the significant prog-
periods, respectively. Diluted earnings per common share were $7.26,
ress made in building market share in the areas of mergers and acqui-
$6.81 and $5.43 in 2007, 2006 and 2005, respectively, up 7% in 2007 and
sitions (“M&A”) and high yield offerings as well as the development
25% in 2006 from the corresponding prior periods, respectively. 2
of a broader range of geographic and client bases. Investment
throughout the fiscal year in the U.S. residential mortgage sector and the
2007 net revenues were $19.3 billion, which exceeded the prior
Management segment net revenues increased 28% to $3.1 billion in
year record level by 10% and represents the fifth consecutive year of
2007 from $2.4 billion in 2006, reflecting record net revenues in both
record net revenues. The second half of the 2007 fiscal year presented
Asset Management and Private Investment Management and our con-
some of the most challenging mortgage and credit markets experienced
tinued expansion of this business segment globally. For the fiscal year,
in almost a decade, particularly in the U.S. Record net revenues were
assets under management (“AUM”) of $282 billion increased 25%
reported in each of our three business segments and in both the Europe
from 2006 from both net inflows and asset appreciation. Non–U.S. net
and the Middle East and Asia-Pacific geographic segments. Pre-tax mar-
revenues increased 49% to $9.6 billion in 2007 from $6.5 billion in
gin for the 2007 fiscal year was 31.2%, compared to 33.6% and 33.0%
2006, representing 50% and 37% of total net revenues in the 2007 and
reported in 2006 and 2005, respectively. Full year return on average
2006 periods, respectively.
common stockholders’ equity 3 was 20.8%, 23.4% and 21.6% for 2007,
2006 vs. 2005 Net revenues increased 20% in 2006 from 2005.
2006 and 2005, respectively. Return on average tangible common stock-
Capital Markets segment net revenues increased 22% to $12.0 billion in
holders’ equity was 25.7%, 29.1% and 27.8% in full years 2007, 2006 and
2006 from $9.8 billion in 2005. Capital Markets—Equities net revenues
2005, respectively.
rose 44% to $3.6 billion in 2006 from $2.5 billion in 2005, driven by
In 2007, Capital Markets segment net revenues
solid client–flow activity in the cash and prime services businesses.
increased 2% to a record $12.3 billion from $12.0 billion in 2006. Capital
Capital Markets—Fixed Income net revenues increased 15% to $8.4
Markets—Equities, operating in a favorable environment of strong cus-
billion in 2006 from $7.3 billion in 2005 due to broad-based strength
tomer-driven activity and favorable global equities markets, reported net
across products and regions. Investment Banking segment net revenues
revenues of $6.3 billion in 2007, a 76% increase from $3.6 billion in
increased 9% to $3.2 billion in 2006 from $2.9 billion in 2005, reflecting
2006. These record results in the Equities component of our Capital
strength in each business. Investment Management segment net revenues
Markets business segment were offset by a decrease in Capital Markets—
increased 25% to $2.4 billion in 2006 from $1.9 billion in 2005,
Fixed Income’s net revenues which declined 29% to $6.0 billion in 2007
reflecting growth in alternative investment offerings and an increase in
2007 vs. 2006
1
Market share, volume and ranking statistics in this MD&A were obtained from Thomson Financial, an operating unit of The Thomson Corporation.
2
The 2006 results included an after-tax gain of $47 million ($0.08 per diluted common share) from the cumulative effect of an accounting change for equity-based compensation resulting from
the Company’s adoption of Statement of Financial Accounting Standards (“SFAS”) No. 123 (revised), Share-Based Payment (“SFAS 123(R)”). For additional information, see Note 12, “Share-Based
Employee Incentive Plans,” to the Consolidated Financial Statements.
3
Return on average common stockholders’ equity and return on average tangible common stockholders’ equity are computed by dividing net income applicable to common stock for the period by average
common stockholders’ equity and average tangible common stockholders’ equity, respectively. We believe average tangible common stockholders’ equity is a meaningful measure because it reflects
the common stockholders’ equity deployed in our businesses. Average tangible common stockholders’ equity equals average common stockholders’ equity less average identifiable intangible assets
and goodwill and is computed as follows:
Year Ended November 30,
In millions
2007
2006
2005
Net income applicable to common stock
$ 4,125
$ 3,941
$ 3,191
Average stockholders’ equity
$20,910
$17,971
$15,936
Less: average preferred stock
(1,095)
(1,095)
(1,195)
$19,815
$16,876
$14,741
Average common stockholders’ equity
Less: average identifiable intangible assets and goodwill
Average tangible common stockholders’ equity
(3,756)
(3,312)
(3,272)
$16,059
$13,564
$11,469
Return on average common stockholders’ equity
20.8%
23.4%
21.6%
Return on average tangible common stockholders’ equity
25.7%
29.1%
27.8%
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
equity-related activity. In 2006, AUM increased 29% to $225 billion
The global fixed income environment was characterized by spreads
from $175 billion in 2005. Non–U.S. net revenues increased 21% to $6.5
tightening in the first half of the year and, conversely, unprecedented
billion in 2006 from $5.4 billion in 2005, representing 37% of total net
spread widening in the second half of the year. Global high yield and
revenues for both the 2006 and 2005 periods.
high grade spread indices ended our fiscal year up 209 and 86 basis
While we generated record operating results in 2007, our business,
points, respectively, compared to the end of our 2006 fiscal year. Global
by its nature, does not produce predictable earnings. Our results in any
equity markets rose over the fiscal year; however, many equity markets
given period can be materially affected by conditions in global financial
experienced high volatility in the second half of the year. Globally, cor-
markets and economic conditions generally. For a further discussion of
porate activity levels in completed and announced M&A transactions
factors that may affect our future operating results, see “Certain Factors
were up compared to our last fiscal year. In addition, equity underwriting
Affecting Results of Operations” below as well as “Risk Factors” in Part
activity remained solid, particularly in convertibles; but debt underwrit-
I, Item 1A in the Form 10-K. For a detailed discussion of results of
ing activity declined, particularly in leveraged finance during the second
operations by business segments and geographic regions, see “Business
half of the 2007 fiscal year.
Segments” and “Geographic Revenues.”
Global economic growth was approximately 3.4% for calendar year
BUSINESS ENVIRONMENT
As an investment banking, securities and investment management
2007 and is forecasted to be lower for calendar year 2008. Our forecast
firm, our businesses are materially affected by conditions in the global
Eurozone are lower than those for Asia and other territories. Our growth
financial markets and worldwide economic conditions. A favorable busi-
outlook is dependent on how extended and severe the credit dislocation
ness environment is generally characterized by, among other factors, high
may be, results from fiscal and monetary policy actions, accessibility of
global gross domestic product growth, stable geopolitical conditions,
new sources of liquidity and oil prices leveling or continuing to increase.
transparent and efficient capital markets, liquid markets with active inves-
The underpinnings of these growth assumptions also form our view on
tors, low inflation, high business and consumer confidence and strong
prospective Investment Banking activity. We expect M&A volumes to
business earnings.These factors provide a positive climate for our invest-
decline in 2008 by approximately 20% as compared to 2007 and believe
ment banking activities, for many of our capital markets trading busi-
that (i) strategic buyers will continue to account for a larger proportion
nesses and for wealth creation, which contributes to growth in our asset
of overall deal volume, (ii) stock will become prominent in transactions
management business. For a further discussion of how market conditions
and (iii) cross-border and international activity will continue to increase.
can affect our business, see “Certain Factors Affecting Results of
If the anticipated higher volatility in global equity markets is realized in
Operations” below as well as “Risk Factors” in Part I, Item 1A in the
calendar 2008, we expect equity issuance will be down compared to
Form 10-K. A further discussion of the business environment in 2007
2007. Equity capital markets experienced a 17% return in 2007 in local
and economic outlook for 2008 is set forth below.
currency terms, and we expect lower returns in 2008. We expect global
differs by geographies: our growth assumptions for the Americas and
The global market environment was generally favorable for our
fixed income origination to decline in 2008 as a result of lower volumes
businesses for the first half of the 2007 fiscal year. These favorable con-
of securitizations and M&A financings. Fixed income capital markets are
ditions resulted from a number of factors: strong equity markets, con-
expected to continue to face uncertainties in the 2008 calendar year.
tinued strong gross domestic product in most major economies,
In the U.S., economic growth showed signs of strength at the
tightening credit spreads, minimal interest rate actions by major central
beginning of our fiscal year, driven by higher net exports and consump-
banks, active trading volumes, and strong M&A and underwriting
tion levels, among other indicators, but the pace of growth slowed in the
activities driven by favorable interest rate and credit spread environ-
latter half. Over the twelve-month period, the U.S. housing market
ments. During the second half of the 2007 fiscal year, the global
weakened, business confidence declined, and, in the last six months of
economy was impacted by the deterioration within the U.S. subprime
the year, consumer confidence dropped. The labor market followed the
residential mortgage asset category, the weakening of the U.S. housing
same trajectory, showing signs of deterioration in the second half of the
sector became worse than most observers expected and dislocations
period as unemployment levels increased modestly and payroll data
began to occur beyond the residential mortgage component of credit
showed some signs of weakness. Responding to concerns over liquidity
markets. Also during the latter part of the 2007 fiscal year, risk aversion
in the financial markets and inflationary pressures, the U.S. Federal
escalated following rating agency downgrades of certain structured
Reserve reduced rates three times during the calendar year and made an
assets which, in part, led to many market participants re-pricing assets
additional inter-meeting rate cut in January 2008, and most observers
and taking large write-downs. Central banks sought to prevent a more
anticipate additional reductions will occur in the early part of our 2008
serious downturn by central bank interest rate and liquidity actions.
fiscal year. Long-term bond yields declined, with the 10-year Treasury
Our fiscal year ended with dislocated inter-bank markets, constrained
note yield ending our fiscal year down 52 basis points at 3.94%.The S&P
bank balance sheets and credit uncertainty regarding monoline issuers
500 Index, Dow Jones Industrial Average and NASDAQ composites
and structured investment vehicles.
were up 5.7%, 9.4%, and 9.4%, respectively, from November 2006 levels.
35
36
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
The current high levels of U.S. home inventories suggest that an extended
believe that those tighter conditions, lower anticipated world growth
period of construction declines and housing price cuts will combine with
and a stronger Euro will combine to slow regional growth for our
tighter credit conditions and increasing oil prices to slow down consumer
upcoming 2008 fiscal year.
spending. We believe those conditions will continue to strain the capital
In Japan, real gross domestic product growth decelerated, unem-
markets, particularly the securitized products and residential housing
ployment levels modestly decreased and deflation eased during our
components. We also believe that those conditions will stress other com-
2007 fiscal year. The Bank of Japan increased its rates in early 2007 and
ponents of the capital markets, such as commercial real estate. We believe
held those rates for the remainder of our fiscal year, and is anticipated
these impediments will decrease the U.S. growth rate in 2008.
to continue to do so into our 2008 fiscal year.The yield on the 10-year
In Eurozone countries and the U.K., economic growth contin-
Japanese government bond fell 18 basis points to 1.48% at the end of
ued in the second half of the 2007 fiscal year, although it was modest
our 2007 fiscal year. The Nikkei 225 equity index was 3.6% lower at
compared to the first half. Business activity reflected a slight tapering
the end of our fiscal year than its level at the end of our 2006 fiscal
at the end of the fiscal year. Unemployment levels declined over the
year. Residential and non-residential construction spending is decreas-
fiscal year, and inflationary pressures appeared contained.The European
ing, and the recovery in the corporate sector during the period has yet
Central Bank increased rates twice during our fiscal year and is fore-
to have an effect on wages and consumption, thus increasing the risk
casted to hold those levels through the early part of our 2008 fiscal
of a possible recession. Elsewhere in Asia, however, equity markets
year. The Bank of England (the “BOE”) increased rates three times
broadly ended our fiscal year higher compared to the prior period. We
during our fiscal year, and in December 2007 the BOE began to ease
expect three trends to emerge in China’s economy in 2008: (i) GDP
with a rate reduction. Further rate reductions are anticipated in the
growth to fall on an annual basis for the first time in six years; (ii) infla-
early part of the 2008 calendar year. The Bund and Gilts 10-year yields
tion to increase over the long-term; and (iii) overcapacity concerns to
were 4.13% and 4.64%, respectively, at the end of our 2007 fiscal year
shape central bank actions. During 2008, we expect India to exhibit
compared to 3.70% and 4.51%, respectively, at the end of our 2006
many of the same characteristics that Japan, South Korea and China did
fiscal year. Equity indices and volatility for continental Europe and the
during their economic takeoffs: GDP accelerating, investment and sav-
U.K. were up compared to levels at the end of our 2006 fiscal year. At
ings rates surging and the economy rapidly opening up. Effects from
the end of our 2007 fiscal year, stresses in the banking system, particu-
the region’s dependency on exports and severe overcapacity may exac-
larly in the U.K, were causing bank credit conditions to tighten. We
erbate the regional growth slowdown predicted for 2008.
C E RTA I N FA C T O R S A F F E C T I N G R E S U LT S O F O P E R AT I O N S
We are exposed to a variety of risks in the course of conducting
our business operations. These risks, which are substantial and inherent
in our businesses, include market, liquidity, credit, operational, legal
economic conditions for our businesses. The effects on our businesses
may include the following:
■
We are exposed to potential changes in the value of financial
and regulatory risks. A summary of some of the significant risks that
instruments caused by fluctuations in interest rates, exchange
could affect our financial condition and results of operations includes,
rates, equity and fixed income securities and commodities and
but is not limited to the items below. For a discussion of how manage-
real estate prices, credit spreads, liquidity volatility, overall mar-
ment seeks to manage these risks, see “Risk Management” in this
ket activity or other conditions. We may incur losses as a result
MD&A. For a further discussion of these and other important factors
of changes in market conditions, especially if the changes are
that could affect our business, see “Risk Factors” in Part I, Item 1A in
rapid and without warning, as these fluctuations may adversely
the Form 10-K.
impact the valuation of our trading and inventory positions and
MARKET CONDITIONS AND MARKET RISK
Global financial markets and economic conditions materially affect
principal investments.
■
Market fluctuations and volatility may reduce our or our custom-
our businesses. Market conditions may change rapidly and without fore-
ers’ willingness to enter into new transactions. Conversely, certain
warning. We believe a favorable business environment for our businesses
of our trading businesses depend on market volatility to provide
is generally characterized by, among other factors, high global gross
trading and arbitrage opportunities, and decreases in volatility may
domestic product growth, stable geopolitical conditions, transparent and
reduce these opportunities and adversely affect these businesses.
efficient capital markets, liquid markets with active investors, low infla-
Any change in volume of executed transactions impacts both our
tion, high business and consumer confidence and strong business earnings. The converses of these factors, individually or in their aggregate,
have resulted in or may result in unfavorable or uncertain market and
costs incurred and revenues received from those trades.
■
Although we deploy various risk mitigation and risk monitoring
techniques, they are subject to judgments as to the timing and
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
duration of their application. Additionally, no risk management
■
■
procedure can anticipate every market event and the exis-
LIQUIDITY RISK
While our liquidity strategy seeks to ensure that we maintain suf-
tence of risk management in our businesses does not provide
ficient liquidity to meet all of our funding obligations in all markets, our
complete assurance against incurring losses. Increased market
liquidity could be impaired by an inability to access secured and/or
volatility directly impacts our measurement of risks. Increases
unsecured debt markets, an inability to access funds from our subsidiar-
to our measured risk may cause us to decrease our proprietary
ies, an inability to sell assets or unforeseen outflows of cash or collateral.
positions or certain business activities. In such circumstances, we
This situation may arise due to circumstances that we are unable to
may not be able to reduce our positions or our exposure in a
control, such as a general market disruption or an operational problem
timely, cost-effective way or in a manner sufficient to offset the
that affects third parties or us. As we continue to employ structured
increase in measured risk. For additional discussion on risk miti-
products to benefit our clients and ourselves, the financial instruments
gation and risk monitoring techniques, see “Risk Management”
that we hold and the contracts to which we are a party are becoming
in this MD&A.
increasingly complex and these complex structured products often do
Declines in the size and number of underwritings and M&A
not have readily available markets to access in times of liquidity stress.
transactions may have an adverse impact on our results of opera-
Growth of our principal investing activities could further restrict
tions and, if we are unable to reduce expenses, our profit margins.
liquidity for these positions. Further, our ability to sell assets may be
An overall decrease in global markets’ appetites for transactions
impaired if other market participants are seeking to sell similar assets at
may also impact our ability to syndicate various loan or equity
the same time.
commitments we have made. Additionally, pricing and other
Our credit ratings are important to our liquidity. A reduction in
competitive pressures may adversely affect revenues for our
our credit ratings could adversely affect our liquidity and competitive
Investment Banking segment.
position, increase our borrowing costs, limit our access to the capital
Asset valuations of our clients’ portfolios are impacted by changes
markets or trigger provisions under certain bilateral provisions in some
in equity market conditions or interest rates. In turn, our fees for
of our trading and collateralized financing contracts that could permit
managing those portfolios are also affected. Changing market
counterparties to terminate contracts or require us to post additional
conditions may cause investors to change their allocations of
collateral. Termination of our trading and collateralized financing con-
investments in our funds or other products. Our asset manage-
tracts could cause us to sustain losses and impair our liquidity by requir-
ment business operates in a highly competitive environment.
ing us to find other sources of financing or to make significant cash
Changes in our asset management business’ performance could
payments or securities movements.
result in a decline in AUM and in incentive and management fees.
OPERATIONAL RISK
Operational risk is the risk of loss resulting from inadequate or
CREDIT RISK
We are exposed to the potential for credit-related losses that can
failed internal or outsourced processes, people, infrastructure and tech-
occur as a result of an individual, counterparty or issuer who owes us
nology, or from external events. Our businesses are dependent on our
money, securities or other assets being unable or unwilling to honor its
ability to process, on a daily basis, a large number of transactions across
contractual obligations. We are also at risk that our rights against any
numerous and diverse markets. These transactions have become increas-
individual, counterparty or issuer may not be enforceable in all circum-
ingly complex and often must adhere to requirements unique to each
stances. Additionally, deterioration in the credit quality of third parties
transaction, as well as legal and regulatory standards. Although contin-
whose securities or obligations we hold could result in losses or adversely
gency plans exist, our ability to conduct business may be adversely
affect our ability to otherwise use those securities or obligations for
impacted by a disruption in the infrastructure that supports our business.
liquidity purposes. The amount and duration of our credit exposures
have been increasing over the past several years, as have the number and
LEGAL, REGULATORY AND REPUTATIONAL RISK
The securities and financial services industries are subject to exten-
range of the entities to which we have credit exposures. Although we
sive regulation under both federal and state laws in the U.S. as well as
regularly review credit exposures to specific clients and counterparties
under the laws of all of the other jurisdictions in which we do business.
and to specific industries, countries and regions that we believe may
We are subject to regulation in the U.S. by governmental agencies
present credit concerns, new business initiatives may cause us to transact
including the SEC and Commodity Futures Trading Commission, and
with a broader array of clients, with new asset classes and in new markets.
outside the U.S. by various international agencies including the Financial
In addition, the recent widening of credit spreads and dislocations in the
Services Authority in the United Kingdom and the Financial Services
credit markets have in some cases made it more difficult to syndicate
Agency in Japan. We also are regulated by a number of self-regulatory
credit commitments to investors, and further widening of credit spreads
organizations such as the Financial Industry Regulatory Authority
or worsening of these dislocations could increase these difficulties, result-
(“FINRA”) (formed in 2007 by the consolidation of NASD, Inc., and
ing in increased credit exposures.
the member regulation, enforcement and arbitration functions of the
37
38
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
New York Stock Exchange, Inc. (“NYSE”)), the Municipal Securities
of highly publicized cases involving fraud, conflicts of interest or other
Rulemaking Board and the National Futures Association, and by
misconduct by employees in the financial services industry, and we run
national securities and commodities exchanges. Violation of applicable
the risk that misconduct by our employees could occur, resulting in
regulations could result in legal and/or administrative proceedings,
unknown and unmanaged risks or losses. Employee misconduct could
which may impose censures, fines, cease-and-desist orders or suspension
also involve the improper use or disclosure of confidential information,
of a firm, its officers or employees.
which could result in regulatory sanctions and serious reputational or
The scrutiny of the financial services industry has increased over
financial harm. In addition, in certain circumstances our reputation
the past several years, which has led to increased regulatory investigations
could be damaged by activities of our clients in which we participate, or
and litigation against financial services firms. Legislation and rules
of hedge funds or other entities in which we invest, over which we have
adopted both in the U.S. and around the world have imposed substantial
little or no control.
new or more stringent regulations, internal practices, capital require-
We are involved in a number of judicial, regulatory and arbitration
ments, procedures and controls and disclosure requirements in such areas
proceedings concerning matters arising in connection with the conduct
as financial reporting, corporate governance, auditor independence,
of our business, including actions brought against us and others with
equity compensation plans, restrictions on the interaction between
respect to transactions in which we acted as an underwriter or financial
equity research analysts and investment banking employees and money
advisor, actions arising out of our activities as a broker or dealer in
laundering. The trend and scope of increased regulatory compliance
securities and actions brought on behalf of various classes of claimants
requirements have increased costs.
against many securities firms and lending institutions, including us. See
Our reputation is critical in maintaining our relationships with
Part I, Item 1A, “Business—Regulation” and Part I, Item 3, “Legal
clients, investors, regulators and the general public, and is a key focus in
Proceedings” in the Form 10-K for more information about legal and
our risk management efforts. In recent years, there have been a number
regulatory matters.
C R I T I C A L A C C O U N T I N G P O L I C I E S A N D E S T I M AT E S
The following is a summary of our critical accounting policies that
may involve a higher degree of management judgment and in some
entity (sometimes referred to as a non-VIE), a variable interest entity
(“VIE”) or a qualified special purpose entity (“QSPE”).
instances complexity in application. For a further discussion of these and
Voting Interest Entity Voting interest entities are entities that
other accounting policies, see Note 1 “Summary of Significant
have (i) total equity investment at risk sufficient to fund expected
Accounting Policies,” to our Consolidated Financial Statements.
future operations independently and (ii) equity holders who have the
USE OF ESTIMATES
In preparing our Consolidated Financial Statements and accompa-
obligation to absorb losses or receive residual returns and the right to
nying notes, management makes various estimates that affect reported
Accounting Research Bulletin (“ARB”) No. 51, Consolidated
amounts and disclosures. Broadly, those estimates are used in:
Financial Statements, and Statement of Financial Accounting Standards
make decisions about the entity’s activities. In accordance with
■
measuring fair value of certain financial instruments;
(“SFAS”) No. 94, Consolidation of All Majority-Owned Subsidiaries,
■
accounting for identifiable intangible assets and goodwill;
voting interest entities are consolidated when the Company has a
■
establishing provisions for potential losses that may arise from
controlling financial interest, typically more than 50 percent of an
litigation, regulatory proceedings and tax examinations;
entity’s voting interests.
■
assessing our ability to realize deferred taxes; and
■
valuing equity-based compensation awards.
voting interest entity characteristics. The Company consolidates
Estimates are based on available information and judgment.
VIEs in which it is the primary beneficiary. In accordance with
Therefore, actual results could differ from our estimates and that differ-
Financial Accounting Standards Board (“FASB”) Interpretation
ence could have a material effect on our Consolidated Financial
(“FIN”) No. 46-R, Consolidation of Variable Interest Entities (revised
Statements and notes thereto.
December 2003)—an interpretation of ARB No. 51 (“FIN 46(R)”), we
Variable Interest Entity VIEs are entities that lack one or more
CONSOLIDATION POLICIES
The assessment of whether accounting criteria for consolidation of
are the primary beneficiary if we have a variable interest, or a com-
an entity is met requires management to exercise judgment. We con-
the VIEs expected losses, (ii) receive a majority of the VIEs expected
solidate the entities in which the Company has a controlling financial
residual returns, or (iii) both. To determine if we are the primary
interest. We determine whether we have a controlling financial interest
beneficiary of a VIE, we review, among other factors, the VIE’s
in an entity by first determining whether the entity is a voting interest
design, capital structure, contractual terms, which interests create or
bination of variable interests, that will either (i) absorb a majority of
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
absorb variability and related party relationships, if any. Additionally, we
(ii) expected returns or losses are reallocated among the partici-
may calculate our share of the VIE’s expected losses and expected
pating parties within the entity.
residual returns based upon the VIE’s contractual arrangements and/or
■
returns or losses.
performed using expected cash flows allocated to the expected losses and
expected residual returns under various probability-weighted scenarios.
The equity investment (or some part thereof) is returned to the
equity investors and other interests become exposed to expected
our position in the VIE’s capital structure.This type of analysis is typically
■
Qualified Special Purpose Entity QSPEs are passive entities with
Additional activities are undertaken or assets acquired by the
entity that were beyond those anticipated previously.
limited permitted activities. SFAS No. 140, Accounting for Transfers and
■
Participants in the entity acquire or sell interests in the entity.
Servicing of Financial Assets and Extinguishments of Liabilities—a replace-
■
The entity receives additional equity at risk or curtails its activi-
ment of FASB Statement No. 125 (“SFAS 140”), establishes the criteria
ties in a way that changes the expected returns or losses.
an entity must satisfy to be a QSPE, including types of assets held, limits
on asset sales, use of derivatives and financial guarantees, and discretion
VALUATION OF FINANCIAL INSTRUMENTS
We measure Financial instruments and other inventory positions
exercised in servicing activities. In accordance with SFAS 140 and FIN
owned, excluding Real estate held for sale, and Financial instruments and
46(R), we do not consolidate QSPEs.
other inventory positions sold but not yet purchased at fair value. We
For a further discussion of our involvement with VIEs, QSPEs and
account for Real estate held for sale at the lower of its carrying amount
other entities see Note 6, “Securitizations and Special Purpose Entities,”
or fair value less cost to sell. Both realized and unrealized gains or losses
to the Consolidated Financial Statements.
from Financial instruments and other inventory positions owned and
Equity-Method Investments Entities in which we do not have a
Financial instruments and other inventory positions sold but not yet
controlling financial interest (and therefore do not consolidate) but in
purchased are reflected in Principal transactions in the Consolidated
which we exert significant influence (generally defined as owning a vot-
Statement of Income.
ing interest of 20 percent to 50 percent, or a partnership interest greater
We adopted SFAS No. 157, Fair Value Measurements (“SFAS 157”),
than 3 percent) are accounted for either under Accounting Principles
in the first quarter of 2007. SFAS 157 defines fair value, establishes a
Board Opinion No. 18, The Equity Method of Accounting for Investments
framework for measuring fair value, establishes a fair value hierarchy
in Common Stock or SFAS No. 159, The Fair Value Option for Financial
based on the inputs used to measure fair value and enhances disclosure
Assets and Financial Liabilities (“SFAS 159”). For further discussion of
requirements for fair value measurements. Additionally and also in the
our adoption of SFAS 159, see “Accounting and Regulatory
first quarter of 2007, we adopted SFAS 159, and applied this option to
Developments—SFAS 159” below.
certain hybrid financial instruments not previously accounted for at fair
Other When we do not consolidate an entity or apply the equity
value under SFAS No. 155, Accounting for Certain Hybrid Financial
method of accounting, we present our investment in the entity at fair
Instruments—an amendment of FASB Statements No. 133 and 140, as
value.We have formed various non-consolidated private equity or other
well as certain deposit liabilities at our U.S. banking subsidiaries.
alternative investment funds with third-party investors that are typically
SFAS 157 defines “fair value” as the price that would be received
organized as limited partnerships. We typically act as general partner for
to sell an asset or paid to transfer a liability in an orderly transaction
these funds, and when third-party investors have (i) rights to either
between market participants at the measurement date, or an exit price.
remove the general partner without cause or to liquidate the partner-
The degree of judgment utilized in measuring the fair value of financial
ship; or (ii) substantive participation rights, we do not consolidate these
instruments generally correlates to the level of pricing observability.
partnerships in accordance with Emerging Issue Task Force (“EITF”)
Financial instruments with readily available active quoted prices or for
No. 04-5, Determining Whether a General Partner, or the General Partners
which fair value can be measured from actively quoted prices in active
as a Group, Controls a Limited Partnership or Similar Entity When the
markets generally have more pricing observability and less judgment
Limited Partners Have Certain Rights (“EITF 04-5”).
utilized in measuring fair value. Conversely, financial instruments rarely
A determination of whether we have a controlling financial
traded or not quoted have less observability and are measured at fair
interest in an entity and therefore our assessment of consolidation of
value using valuation models that require more judgment. Pricing
that entity is initially made at the time we become involved with the
observability is impacted by a number of factors, including the type of
entity. Certain events may occur which cause us to re-assess our ini-
financial instrument, whether the financial instrument is new to the
tial determination of whether an entity is a VIE or non-VIE or
market and not yet established, the characteristics specific to the transac-
whether we are the primary beneficiary if the entity is a VIE and
tion and overall market conditions generally.
therefore our assessment of consolidation of that entity. Those events
generally are:
■
The overall valuation process for financial instruments may include
adjustments to valuations derived from pricing models. These adjust-
The entity’s governance structure is changed such that either (i)
ments may be made when, in management’s judgment, either the size of
the characteristics or adequacy of equity at risk are changed, or
the position in the financial instrument or other features of the financial
39
40
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
instrument such as its complexity, or the market in which the financial
reflect assumptions that market participants would use in pricing the
instrument is traded (such as counterparty, credit, concentration or
instrument in a current period transaction and outcomes from the models
liquidity) require that an adjustment be made to the value derived
represent an exit price and expected future cash flows. Our valuation
from the pricing models. An adjustment may be made if a trade of a
models are calibrated to the market on a frequent basis.The parameters and
financial instrument is subject to sales restrictions that would result in
inputs are adjusted for assumptions about risk and current market condi-
a price less than the computed fair value measurement from a quoted
tions. Changes to inputs in valuation models are not changes to valuation
market price. Additionally, an adjustment from the price derived from
methodologies; rather, the inputs are modified to reflect direct or indirect
a model typically reflects management’s judgment that other partici-
impacts on asset classes from changes in market conditions. Accordingly,
pants in the market for the financial instrument being measured at fair
results from valuation models in one period may not be indicative of
value would also consider such an adjustment in pricing that same
future period measurements. Valuations are independently reviewed by
financial instrument.
employees outside the business unit and, where applicable, valuations are
We have categorized our financial instruments measured at fair
back tested comparing instruments sold to where they were marked.
value into a three-level classification in accordance with SFAS 157. Fair
During the 2007 fiscal year, our Level III assets increased, ending
value measurements of financial instruments that use quoted prices in
the year at 13% of Financial instruments and other inventory positions
active markets for identical assets or liabilities are generally categorized
owned, measured at fair value and with our derivatives on a net basis.
as Level I, and fair value measurements of financial instruments that have
The increase in Level III assets resulted largely from the reclassification
no direct observable levels are generally categorized as Level III. The
of approximately $11.4 billion of mortgage and asset-backed securities,
lowest level input that is significant to the fair value measurement of a
including approximately $5.3 billion in U.S. subprime residential mort-
financial instrument is used to categorize the instrument and reflects the
gage-related assets, previously categorized as Level II assets into the Level
judgment of management. Financial assets and liabilities presented at fair
III category.This reclassification generally occurred in the second half of
value in Holdings’ Condensed Consolidated Statement of Financial
2007, reflecting the reduction of liquidity in the capital markets that
Condition generally are categorized as follows:
resulted in a decrease in the observability of market prices.Approximately
Level I Inputs are unadjusted, quoted prices in active markets for
half of the residential mortgage-related assets that were classified as Level
identical assets or liabilities at the measurement date.
III at the end of the 2007 fiscal year were whole loan mortgages. In
The types of assets and liabilities carried at Level I fair value gener-
particular, the decline in global trading activity impacted our ability to
ally are G-7 government and agency securities, equities listed in
directly correlate assumptions in valuation models used in pricing
active markets, investments in publicly traded mutual funds with
mortgage-related assets, including those for cumulative loss rates and
quoted market prices and listed derivatives.
changes in underlying collateral values to current market activity.
Level II Inputs (other than quoted prices included in Level I) are
Additionally and during the fiscal year, the increase of assets character-
either directly or indirectly observable for the asset or liability
ized as Level III was also attributable to the acquisition of private equity
through correlation with market data at the measurement date and
and other principal investment assets, funded lending commitments that
for the duration of the instrument’s anticipated life.
had not been fully syndicated at the end of the fiscal year as well as
Fair valued assets and liabilities that are generally included in this
certain commercial mortgage-backed security positions.
category are non-G-7 government securities, municipal bonds, cer-
For a further discussion regarding the measure of Financial instru-
tain hybrid financial instruments, certain mortgage and asset backed
ments and other inventory positions owned, excluding Real estate held
securities, certain corporate debt, certain commitments and guaran-
for sale, and Financial instruments and other inventory positions sold but
tees, certain private equity investments and certain derivatives.
not yet purchased at fair value, see Note 4, “Fair Value of Financial
Level III Inputs reflect management’s best estimate of what
Instruments,” to the Consolidated Financial Statements.
the measurement date. Consideration is given to the risk inherent
IDENTIFIABLE INTANGIBLE ASSETS AND GOODWILL
Determining the carrying values and useful lives of certain assets
in the valuation technique and the risk inherent in the inputs to
acquired and liabilities assumed associated with business acquisitions—
the model.
intangible assets in particular—requires significant judgment. At least
Generally, assets and liabilities carried at fair value and included in
annually, we are required to assess whether goodwill and other intangible
this category are certain mortgage and asset-backed securities, cer-
assets have been impaired by comparing the estimated fair value, calcu-
tain corporate debt, certain private equity investments, certain
lated based on price-earnings multiples, of each business segment with
commitments and guarantees and certain derivatives.
its estimated net book value, by estimating the amount of stockholders’
market participants would use in pricing the asset or liability at
Financial assets and liabilities presented at fair value and categorized
equity required to support each business segment. Periodically estimat-
as Level III are generally those that are marked to model using relevant
ing the fair value of a reporting unit and carrying values of intangible
empirical data to extrapolate an estimated fair value. The models’ inputs
assets with indefinite lives involves significant judgment and often
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
involves the use of significant estimates and assumptions.These estimates
advisor, actions arising out of our activities as a broker or dealer in secu-
and assumptions could have a significant effect on whether or not an
rities and commodities and actions brought on behalf of various classes
impairment charge is recognized and the magnitude of such a charge.We
of claimants against many securities firms, including us. In addition, our
completed our last impairment test on goodwill and other intangible
business activities are reviewed by various taxing authorities around the
assets as of August 31, 2007, and no impairment was identified.
world with regard to corporate income tax rules and regulations. We
LEGAL, REGULATORY AND TAX PROCEEDINGS
In the normal course of business, we have been named as a defen-
provide for potential losses that may arise out of legal, regulatory and tax
dant in a number of lawsuits and other legal and regulatory proceedings.
Those determinations require significant judgment. For a further discus-
Such proceedings include actions brought against us and others with
sion, see Note 9, “Commitments, Contingencies and Guarantees,” to the
respect to transactions in which we acted as an underwriter or financial
Consolidated Financial Statements.
proceedings to the extent such losses are probable and can be estimated.
C O N S O L I D AT E D R E S U LT S O F O P E R AT I O N S
OVERVIEW
The following table sets forth an overview of our results of operations in 2007:
YEAR ENDED NOVEMBER 30,
IN MILLIONS
PERCENT CHANGE
2007
2006
2005
Net revenues
$19,257
$17,583
$14,630
2007/2006
10%
2006/2005
20%
Income before taxes
$ 6,013
$ 5,905
$ 4,829
2
Net income(1)
$ 4,192
$ 4,007
$ 3,260
5
23
Earnings per diluted common share
$ 7.26
$ 6.81
$ 5.43
7%
25%
Annualized return on average
common stockholders’ equity
20.8%
23.4%
21.6%
Annualized return on average
tangible common stockholders’ equity
25.7%
29.1%
27.8%
(1)
22
Net income in 2006 included an after-tax gain of $47 million, or $0.08 per diluted common share, as a cumulative effect of an accounting change associated with our adoption of SFAS
123(R), on December 1, 2005.
NET REVENUES
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Principal transactions
PERCENT CHANGE
2007
2006
2005
2007/2006
$ 9,197
$ 9,802
$ 7,811
Investment banking
3,903
3,160
2,894
24
9
Commissions
2,471
2,050
1,728
21
19
41,693
30,284
19,043
38
59
1,739
1,413
944
23
50
Gross revenues
$59,003
$46,709
$32,420
Interest expense
39,746
29,126
17,790
Interest and dividends
Asset management and other
(6)%
2006/2005
25%
26%
44%
36
64
Net revenues
$19,257
$17,583
$14,630
10%
20%
Net interest revenues
$ 1,947
$ 1,158
$ 1,253
68%
(8)%
Principal transactions, commissions
and net interest revenues
$13,615
$13,010
$10,792
5%
21%
Principal Transactions, Commissions and Net Interest Revenue In
transactions, Commissions and Net interest revenue (Interest and divi-
both the Capital Markets segment and the Private Investment
dends revenue net of Interest expense).These revenue categories include
Management business within the Investment Management segment, we
realized and unrealized gains and losses, commissions associated with
evaluate net revenue performance based on the aggregate of Principal
client transactions and the interest and dividend revenue and interest
41
42
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
expense associated with financing or hedging positions. Interest and
declined 8% in 2006 from 2005 as a result of a change in the mix of
dividends revenue and Interest expense are a function of the level and mix
asset composition, an increase in short-term U.S. financing rates, and a
of total assets and liabilities (primarily financial instruments owned and
flattened yield curve. Interest and dividends revenue and Interest
sold but not yet purchased, and collateralized borrowing and lending
expense rose 59% and 64%, respectively, in 2006 from 2005. The
activities), prevailing interest rates and the term structure of our financings.
increase in Interest and dividend revenues and Interest expense was
Caution should be used when analyzing these revenue categories indi-
attributable to higher short-term interest rates coupled with higher
vidually because they may not be indicative of the overall performance of
levels of certain interest- and dividend-earning assets and interest-
the Capital Markets and Investment Management business segments.
bearing liabilities.
Principal transactions, Commissions and Net interest revenue in the
aggregate rose 5% in 2007 from 2006 and 21% in 2006 from 2005.
Investment Banking Investment banking revenues represent fees
and commissions received for underwriting public and private offerings
Principal transactions revenue decreased 6% in
of fixed income and equity securities, fees and other revenues associated
2007 from 2006, primarily as a result of negative valuation adjustments
with advising clients on M&A activities, as well as other corporate
made on certain components of our Fixed Income inventory during the
financing activities.
second half of the 2007 fiscal year. Although we employ risk mitigation
2007 vs. 2006
2007 vs. 2006
Investment banking revenues rose to record levels
strategies for certain inventory positions, correlations broke down, par-
in 2007, increasing 24% from 2006. Record Global Finance—Debt rev-
ticularly in the latter parts of the fiscal year, resulting in a higher degree
enues increased 9% from 2006. Leveraged finance revenues were at all
of risk incurred. With respect to Capital Markets—Fixed Income cus-
time highs, resulting from a very strong first half of the year, which was
tomer flow revenues, heightened risk aversion among investors caused
partially offset by a decline in the second half of the year. Global
many to shift their trading activity to higher quality and more liquid
Finance—Equity net revenues increased 25% compared to 2006 led by
products, which are generally less profitable for the Firm. The negative
exceptional derivative activity as well as strong initial public offering
adjustments and the effects of this shift on our margin were partially
(“IPO”) revenue in the first half of the fiscal year. Record Advisory
offset by record revenues within Capital Markets—Equities. The com-
Services revenues increased 45% from 2006, as our completed transaction
parative increase in Equities’ Principal transactions revenue was a result
volume increased 124% for the same period. Included in Investment
of higher customer activities, increase in market volatility and higher
banking revenue are client-driven derivative and other capital markets-
revenues from principal and proprietary trading strategies, especially in
related transactions with Investment Banking clients, which totaled
the international markets. Commission revenues rose 21% in 2007 from
approximately $541 million for 2007, compared to approximately $304
2006.The increase in 2007 reflected growth in institutional commissions
million for 2006.
on higher global trading volumes. Net interest revenue increased 68% in
2006 vs. 2005
Investment banking revenues rose in 2006, increas-
2007 from 2006 reflecting changes in both financing rates and yield
ing 9% from 2005. Global Finance—Debt 2006 net revenues increased
curves between the periods. Interest and dividends revenue and Interest
9% from 2005, reflecting significant growth in global origination market
expense rose 38% and 36%, respectively, in 2007 from 2006. The com-
volumes. Global Finance—Equity net revenues decreased 1% compared
parative increase in Interest and dividend revenues and Interest expense
to 2005, despite increased global origination market volumes. Advisory
was attributable to the steepening of the yield curve and the growth of
Services net revenues increased 20% from 2005, reflecting higher com-
certain assets and liabilities on our balance sheet.
pleted global M&A transaction volumes. Client-driven derivative and
Principal transactions revenue improved 25% in
other capital markets-related transactions with Investment Banking cli-
2006 from 2005, driven by broad based strength across fixed income
ents totaled approximately $304 million for 2006, compared to approxi-
and equity products. Within Capital Markets, the notable increases in
mately $308 million for 2005.
2006 vs. 2005
2006 were in credit products and commercial mortgages and real
Asset Management and Other Asset management and other reve-
estate.The 2006 increase in net revenues from Equities Capital Markets
nues primarily result from asset management activities in the Investment
reflected higher client trading volumes, increases in financing and
Management business segment.
derivative activities and higher revenues from proprietary trading strat-
2007 vs. 2006
Asset management and other revenues rose 23% in
egies. Principal transactions revenue in 2006 also benefited from
2007 from 2006. The growth in 2007 primarily reflected higher asset
increased revenues associated with certain structured products meeting
management fees attributable to the growth in AUM and management
the required market observability standard for revenue recognition.
and incentive fees.
Commission revenues rose 19% in 2006 from 2005, reflecting growth
2006 vs. 2005
Asset management and other revenues rose 50% in
in institutional commissions on higher global trading volumes, partially
2006 from 2005. The growth in 2006 primarily reflected higher asset
offset by lower commissions in our Investment Management business
management fees attributable to the growth in AUM, a transition to fee-
segment, as certain clients transitioned from transaction-based com-
based rather than commission-based pricing for certain clients, as well as
missions to a traditional fee-based schedule. Net interest revenue
higher private equity management and incentive fees.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
NON-INTEREST EXPENSES
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Compensation and benefits
PERCENT CHANGE
2007
2006
2005
$ 9,494
$ 8,669
$ 7,213
2007/2006
2006/2005
10%
20%
Non-personnel expenses:
Technology and communications
1,145
974
834
18
17
Brokerage, clearance and distribution fees
859
629
548
37
15
Occupancy
641
539
490
19
10
Professional fees
466
364
282
28
29
Business development
378
301
234
26
29
Other
261
202
200
$ 3,750
$ 3,009
$ 2,588
25%
16%
$13,244
$11,678
$ 9,801
13%
19%
Total non-personnel expenses
Total non-interest expenses
Compensation and benefits/Net revenues
49.3%
49.3%
49.3%
Non-personnel expenses/Net revenues
19.5%
17.1%
17.7%
Non-interest expenses were $13.2 billion, $11.7 billion and $9.8
2006 vs. 2005
29
1
Headcount increased 13% in 2006 from 2005,
billion in 2007, 2006 and 2005, respectively. A substantial portion of our
reflecting the increased levels of business activity across the Firm as
non-interest expenses is compensation-related, and a significant portion
well as our continued investments to grow the franchise, particularly
of our compensation expense represents discretionary bonuses which are
in non–U.S. regions. Correlated to the increase in employees, fixed
impacted by levels of business activity and the structure of our share-
compensation in 2006 was 21% greater than 2005. Fixed compensa-
based compensation programs. Remaining non-interest expense catego-
tion was approximately $3.9 billion and $3.2 billion in 2006 and 2005,
ries are largely variable, and are expected to change over time with
respectively. The 2006 fixed compensation amount of approximately
revenue levels, business activity mix and employee headcount levels.
$3.9 billion includes approximately $1.0 billion of amortization
Compensation and benefits Compensation and benefits totaled
expense for stock awards granted in prior periods. The increased level
$9.5 billion, $8.7 billion and $7.2 billion in 2007, 2006, and 2005, respec-
of revenue from 2005 to 2006 resulted in comparatively higher incen-
tively. Compensation and benefits expense includes both fixed and vari-
tive compensation expense.Variable compensation was 20% greater in
able components. Fixed compensation consists primarily of salaries,
2006 than 2005.
benefits and amortization of previous years’ deferred equity awards.
Non-personnel expenses Non-personnel expenses totaled $3.8
Variable compensation consists primarily of incentive compensation and
billion, $3.0 billion and $2.6 billion in 2007, 2006 and 2005, respectively.
commissions. Compensation and benefits expense as a percentage of net
Non-personnel expenses as a percentage of net revenues were 19.5%,
revenues was 49.3% for 2007, 2006 and 2005. Employees totaled approx-
17.1%, and 17.7% in 2007, 2006, and 2005, respectively.
imately 28,600, 25,900 and 22,900 at November 30, 2007, 2006 and
2005, respectively.
2007 vs. 2006
Technology and communications expenses rose
18% in 2007 from 2006, reflecting increased costs from the continued
2007 vs. 2006 Headcount increased 10% in 2007 from 2006,
expansion and development of our Investment Management platforms
reflecting the increased levels of business activity across the Firm as
and infrastructure. Brokerage, clearance and distribution fees rose 37%
well as our continued investments in the growth of the franchise, par-
in 2007 from 2006, primarily due to higher transaction volumes in
ticularly in non–U.S. regions. In connection with the announced
Equities Capital Markets and Investment Management products.
restructuring of the Firm’s global residential mortgage origination
Occupancy expenses increased 19% in 2007 from 2006, primarily due
business, employee levels were reduced by approximately 1,900 in the
to increased space requirements from the increased number of employ-
2007 fiscal year. Fixed compensation in 2007 was 20% greater than
ees. Professional fees and business development expenses increased
2006 as result of the overall increase in employees. Fixed compensation
27% in 2007 on higher levels of business activity and increased costs
was approximately $4.6 billion and $3.9 billion in 2007 and 2006,
associated with recruiting, consulting and legal fees. In 2007, Other
respectively. The 2007 fixed compensation amount of approximately
non-personnel expenses included approximately $62 million associ-
$4.6 billion includes approximately $1.3 billion of amortization
ated with the restructuring of the Firm’s global residential mortgage
expense for stock awards granted in prior periods. Variable compensa-
origination business.
tion was 1% greater in 2007 than 2006.
43
44
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
2006 vs. 2005
Technology and communications expenses rose
■
17% in 2006 from 2005, reflecting increased costs from the continued
manager based in Chicago, Illinois, with approximately $3.2 billion
expansion and development of our Capital Markets platforms and infrastructure. Brokerage, clearance and distribution fees rose 15% in 2006
in AUM.
■
from 2005, primarily due to higher transaction volumes in certain
Capital Markets and Investment Management products. Occupancy
Congress Life Insurance Company, a life insurance company with
licenses in 43 U.S. states.
■
Dartmouth Capital, a U.K.-based investment advisory firm with
approximately $340 million in assets under advisory.
recruiting, consulting and legal fees.
INCOME TAXES
The provision for income taxes totaled $1.8 billion, $1.9 billion and
H.A. Schupf, a high net worth asset manager with approximately
$2.3 billion in AUM.
■
fees and business development expenses increased 29% in 2006 on
higher levels of business activity and increased costs associated with
The institutional equities business, including the institutional
research group, of Brics Securities Limited, located in India.
■
expenses increased 10% in 2006 from 2005, primarily due to increased
space requirements from the increased number of employees. Professional
LightPoint Capital Management LLC, a leveraged loan investment
■
MNG Securities, an equity securities brokerage firm in Turkey.
A portion of the consideration paid to shareholders of certain enti-
$1.6 billion in 2007, 2006 and 2005, respectively. The provision for
ties described above consisted of shares of Holdings’ common stock. For
income taxes resulted in effective tax rates of 30.3%, 32.9% and 32.5%
more information, see Part II, Item 2, “Unregistered Sales of Equity
for 2007, 2006 and 2005, respectively. The decrease in the effective tax
Securities and Use of Proceeds” in the Quarterly Reports on Form
rate in 2007 compared to 2006 was primarily due to a more favorable
10-Q for the quarters ended August 31, 2007 and May 31, 2007.
Business Dispositions During the fiscal year, we completed the
mix of earnings, which resulted in lower tax expense from foreign
operations as compared to the U.S. statutory rate. The increases in the
effective tax rates in 2006 and 2005 compared with the prior years were
business dispositions listed below.
■
Within Capital Markets we disposed of Neuberger Berman’s cor-
primarily due to an increase in the level of pretax earnings, which
respondent clearing business, which decreased our goodwill and
minimizes the impact of certain tax benefit items, and in 2006 a net
intangible assets by approximately $26 million. The gain on sale
was not material.
reduction in certain benefits from foreign operations, partially offset by
a reduction in state and local taxes due to favorable audit settlements in
■
We incurred non-personnel costs of approximately $62 million,
including a goodwill write-down of approximately $27 million,
2006 and 2005.
BUSINESS ACQUISITIONS, BUSINESS DISPOSITIONS
and approximately $30 million of severance expense (reported in
AND STRATEGIC INVESTMENTS
Business Acquisitions During the fiscal year, we completed the
Compensation and benefits), in connection with the announced
business acquisitions listed below. As a result of these acquisitions,
business, including the closure of BNC Mortgage LLC, our U.S.
the additions to goodwill and intangible assets were approximately
subprime residential mortgage origination platform, the rescaling
$860 million.
of operations in the U.S. and U.K. due to market conditions and
■
Eagle Energy Partners I, L.P., a Texas-based energy marketing
product revisions and the closure of our Korean mortgage busi-
and services company that manages and optimizes supply, trans-
ness. The non-personnel costs were approximately $22 million
portation, transmission, load and storage portfolios on behalf of
after-tax and were generally associated with terminated leases.
wholesale natural gas and power clients.
■
■
restructuring of the Firm’s global residential mortgage origination
■
Capital Corp., acquired in the acquisition of Capital Crossing.
cial bank that originates small business loans.
The transaction was an asset sale and amounts were transferred at
A controlling interest in SkyPower Corp., a Toronto-based early
approximately book value.
Strategic Investments During the fiscal year, we made the fol-
stage wind and solar power generation development company.
SkyPower Corp. is consolidated in our results of operations.
■
The final contingent payment under a 2004 deferred transaction
lowing strategic investments.
■
agreement was made for the remaining 50% of Lehman Brothers
Alternative Investment Management (“LBAIM”), which manages
■
Lehman Brothers Bank disposed of a leasing subsidiary, Dolphin
Capital Crossing Bank, a state-chartered, FDIC-insured commer-
Acquired a 20% interest in the D.E. Shaw group, a global investment management firm.
■
Purchased an initial 20% interest and a subsequent 5% interest
fund of hedge fund portfolios and investment products for institu-
in both Spinnaker Asset Management Limited and Spinnaker
tional and high-net-worth private clients. LBAIM was previously
Financial Services, part of Spinnaker Capital, an emerging mar-
consolidated in Holdings’ results of operations.
kets investment management firm.
Grange Securities Limited, a full service Australian broker-dealer
specializing in fixed income products.
■
Purchased a minority interest in Wilton Re Holdings, a U.S. reinsurer that focuses on the reinsurance of mortality risk on life
insurance policies.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
Subsequent to the fiscal year ended November 30, 2007, we acquired
In January 2008, we announced the suspension of our wholesale
certain assets of Van der Moolen Specialists, including its book of NYSE-
and correspondent mortgage lending activities at our Aurora Loan
listed securities, staff and certain technology.We and certain other broker-
Services subsidiary. We will continue to originate loans through
dealers entered into a joint-venture and invested in TradeWeb Markets
Aurora’s direct lending channel and will maintain Aurora’s servicing
LLC, an electronic securities trading platform owned by Thomson
business. As a result of these suspension activities, we estimate that we
Financial. In addition, in January 2008, we sold our 20% interest in Marble
will incur one-time expenses, after tax, of approximately $40 million
Bar Asset Management LLP, an investment management firm.
for severance and facilities exit costs.
BUSINESS SEGMENTS
Our operations are organized into three business segments:
These business segments generate revenues from institutional, cor-
■
Capital Markets;
porate, government and high net worth individual clients across each of
■
Investment Banking; and
the revenue categories in the Consolidated Statement of Income. Net
■
Investment Management.
revenues and expenses contain certain internal allocations, such as funding costs, that are centrally managed.
SEGMENT OPERATING RESULTS
YEAR ENDED NOVEMBER 30,
IN MILLIONS
PERCENT CHANGE
2007
2006
2005
$12,257
$12,006
$ 9,807
8,058
7,286
6,235
$ 4,199
$ 4,720
$ 3,903
2,880
2007/2006
2006/2005
Capital Markets
Net revenues
Non-interest expense
Income before taxes
2%
22%
11
17
$ 3,572
(11)%
32%
$ 3,160
$ 2,894
24%
2,500
2,039
Investment Banking
Net revenues
Non-interest expense
Income before taxes
23
855
55%
(23)%
28%
25%
$ 1,023
$
$ 3,097
$ 2,417
$ 1,929
2,306
1,892
1,527
660
$
9%
15
Investment Management
Net revenues
Non-interest expense
Income before taxes
$
Net revenues
791
$
525
$
402
22
24
51%
31%
Total
$19,257
$17,583
$14,630
Non-interest expense
13,244
11,678
9,801
Income before taxes
$ 6,013
$ 5,905
$ 4,829
10%
20%
13
19
2%
22%
The below charts illustrate the percentage contribution of each business segment to our total net revenues.
2007
2006
Capital
Markets
64%
2005
Investment
Banking
18%
Investment
Banking
20%
Capital
Markets
67%
Capital
Markets
68%
Investment
Management
16%
Investment
Management
14%
Investment
Banking
20%
Investment
Management
13%
45
46
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
proprietary trading activities and in principal investing in real estate that
CAPITAL MARKETS
Our Capital Markets segment is divided into two components:
Fixed Income
are managed within this component.
We make markets in and trade municipal and pub-
Equities We make markets in and trade equities and equity-
lic sector instruments, interest rate and credit products, mortgage-related
related products and enter into a variety of derivative transactions. We
securities and loan products, currencies and commodities. We also origi-
also provide equity-related research coverage as well as execution and
nate mortgages and we structure and enter into a variety of derivative
clearing activities for clients.Through our capital markets prime services,
transactions. We also provide research covering economic, quantitative,
we provide prime brokerage services to the hedge fund community. We
strategic, credit, relative value, index and portfolio analyses. Additionally,
also engage in proprietary trading activities and private equity and other
we provide financing, advice and servicing activities to the hedge fund
related investments.
community, known as prime brokerage services. We engage in certain
The following table sets forth the operating results of our Capital
Markets business segment.
CAPITAL MARKETS RESULTS OF OPERATIONS
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Principal transactions
PERCENT CHANGE
2007
2006
2005
$ 8,400
$ 9,285
$ 7,393
1,752
1,420
1,132
23
25
41,648
30,264
18,987
38
59
97
105
33
(8)
218
49
Commissions
Interest and dividends
Other
2007/2006
2006/2005
(10)%
26%
Total revenues
51,897
41,074
27,545
26
Interest expense
39,640
29,068
17,738
36
64
Net revenues
12,257
12,006
9,807
2
22
8,058
7,286
6,235
11
17
$ 4,199
$ 4,720
$ 3,572
(11)%
32%
Non-interest expenses
Income before taxes
The following table sets forth net revenues for the two components of our Capital Markets business segment.
CAPITAL MARKETS NET REVENUES
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Fixed Income
PERCENT CHANGE
2007
2006
2005
$ 5,977
$ 8,447
$7,334
6,280
3,559
2,473
$12,257
$12,006
$9,807
Equities
2007/2006
(29)%
76
2%
2006/2005
15%
44
22%
2007 vs. 2006 Net revenues totaled $12.3 billion and $12.0 bil-
The businesses within the Fixed Income component of Capital
lion in 2007 and 2006, respectively. Overall growth in 2007 Capital
Markets were the most affected by the market dislocations, risk repricing
Markets’ net revenues was driven by net revenues from the Equities
and de-levering that took place during the second half of the fiscal year.
component of Capital Markets and a higher contribution from non-
The adverse conditions in the U.S. housing market, changes in the credit
U.S. regions, partially offset by declines in net revenues for the Fixed
markets and continued correction in leveraged loan pricing and certain
Income component of Capital Markets. Capital Markets net revenues
asset-backed security market segments were generally responsible for the
in 2007 include approximately $1.3 billion of gains on debt liabilities
negative variance in Capital Markets—Fixed Income revenues between
which we elected to fair value under SFAS 157 and SFAS 159.
the benchmark periods. The negative valuation adjustments resulting
Net revenues in Capital Markets—Fixed Income of $6.0 billion
from the impact of adverse market conditions were partially mitigated
for 2007, decreased 29% compared with $8.4 billion in 2006. Capital
by the economic risk management strategies we employed as well as
Markets—Fixed Income sales credit volumes were $4.8 billion,
valuation changes on certain debt liabilities and realized gains from the
increasing 40% compared with $3.4 billion in 2006.
sale of certain leveraged lending positions in the fourth quarter.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
The table below presents certain components that generally con-
components after adjusting for the impact of certain economic risk
tributed to the decline of Capital Markets—Fixed Income revenues in
management strategies. Caution should be utilized when evaluating the
2007 from 2006.These components are presented on a gross basis, as well
amounts in the following table as they represent only certain components
as a net basis. The net impact represents the revenue impact from the
of revenue associated with the general business activities described.
GAIN/(LOSS)
IN BILLIONS
YEAR ENDED NOVEMBER 30, 2007
GROSS
NET (1)
Residential mortgage-related positions
$(4.7)
$(1.3)
Commercial mortgage-related positions
(1.2)
(0.9)
Collateralized debt and lending obligation positions (2)
(0.6)
(0.2)
Municipal positions
(0.2)
—
High-yield contingent acquisition loans and facilities (3)
(1.0)
(0.4)
Valuation of debt liabilities (4)
0.9
0.9
$(6.8)
$(1.9)
(1)
The net impact represents the remaining impact from the components after deducting the impact of certain economic risk management strategies. The gross impact excludes any effect
of economic risk management strategies.
(2)
These valuation adjustments substantially relate to asset-backed collateralized debt obligations including warehoused positions.
(3)
Includes approximately $0.3 billion of realized gains from the sale of certain leveraged lending positions that were recognized in our fiscal fourth quarter. The net amount includes
certain transaction fees earned, in addition to the impact of certain economic risk management strategies.
(4)
Represents the amount of gains on debt liabilities allocated to Capital Markets—Fixed Income and for which we elected to fair value under SFAS 157 and SFAS 159. These gains represent
the effect of changes in our credit spread and exclude any Interest income or expense as well as any gain or loss from the embedded derivative components of these instruments. Changes
in valuations are allocated to the businesses within Capital Markets—Fixed Income in relation to the cash generated by, or funding requirements of, the underlying positions.
Capital Markets—Equities net revenues of $6.3 billion for 2007,
Net interest revenues for the Capital Markets segment in 2007
increased 76% compared with $3.6 billion in 2006. These results
increased 68% compared to 2006, primarily attributable to higher short-
reflected the higher revenue levels reflecting the broader customer fran-
term U.S. financing rates and a change in the mix of asset composition.
chise developed globally. Capital Markets—Equities sales credit volumes
Interest and dividends revenue rose 38% in 2007 compared to 2006, and
were $3.7 billion, increasing 53% compared with $2.4 billion in 2006.
interest expense rose 36% in 2007 compared to the corresponding 2006
Global market trading volumes rose 29% in 2007 compared to 2006.
period. Non-interest expenses for 2007 increased 11%. Technology and
The increase in Capital Markets—Equities net revenues reflected
communications expenses increased due to the continued expansion and
increased performance during the fiscal year across all products, with the
development of our business platforms and infrastructure. Brokerage,
exception of convertibles, driven by record customer activity and profit-
clearance and distribution fees rose primarily due to higher transaction
able principal trading and investing strategies. Global equity markets
volumes across most Capital Markets products. Professional fees and
advanced year over year. In the latter half of our 2007 fiscal year, volatil-
business development expenses increased due to global growth of the
ity was at higher levels relative to the comparable 2006 period. The
business segment. For the Capital Markets segment, Income before taxes
volatility in the global equity markets led investors to employ risk miti-
for 2007 decreased 11% compared with 2006 and, correspondingly, pre-
gation strategies, driving global market demand for and strong customer
tax margins in 2007 were 34% compared to 39% in 2006. During 2007,
activity in cash and derivative products. 2007 revenues in convertibles
we announced steps to restructure our residential mortgage origination
declined compared to 2006, mainly due to unprofitable proprietary trad-
business, which is a component of our securitized products business
ing strategies in certain sectors. Capital Markets—Equities prime ser-
within Capital Markets—Fixed Income. See “Business Acquisitions and
vices’ net revenues increased compared to those in the 2006 fiscal year.
Dispositions—Business Dispositions” above. The costs associated with
At the end of the 2007 fiscal year, the number of our prime brokerage
these steps are included in the above non interest expenses.
services clients increased 20% to 630 from the end of the 2006 fiscal year.
2006 vs. 2005
Capital Markets net revenues increased to $12.0
Correspondingly, overall client balances were 30% higher at the end of
billion in 2006 from $9.8 billion in 2005, reflecting record performances
the 2007 fiscal year also compared to balances at the end of the 2006
in both Fixed Income and Equities. On strong performances across most
fiscal year. Capital Markets—Equities revenues in the 2007 fiscal year
products, Capital Markets—Fixed Income net revenues increased 15% in
include gains of approximately $700 million from private equity and
2006 from 2005 and Capital Markets—Equities net revenues increased
other principal investments, including our investment in GLG Partners
44% over the same period. Income before taxes totaled $4.7 billion and
LP, as well as approximately $400 million in allocated gains from valua-
$3.6 billion in 2006 and 2005, respectively, up 32%. Pre-tax margin was
tion changes in certain of our debt liabilities carried at fair value pursu-
39% and 36% in 2006 and 2005, respectively.
ant to SFAS 157 and SFAS 159.
47
48
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
Our Capital Markets—Fixed Income net revenues grew to a
as a result of higher short-term interest rates coupled with higher levels
record $8.4 billion in 2006, an increase of 15% from 2005. This growth
of interest- and dividend-earning assets and interest-bearing liabilities.
was attributable to strong client-flow activity and profitable trading
Non-interest expenses increased to $7.3 billion in 2006 from $6.2 billion
strategies, leading to record revenues in most products.The products that
in 2005.The growth in Non-interest expenses reflected higher compen-
contributed most to the increase in revenues year over year included
sation and benefits expense related to improved performance as well as
credit, commercial mortgages and real estate and prime brokerage, par-
increased technology, occupancy and communications expenses attribut-
tially offset by strong, but lower revenues in both interest rate products
able to continued investments in trading platforms, integration of busi-
and residential mortgages.
ness acquisitions, and higher brokerage and clearance costs and
Capital Markets—Equities net revenues increased 44% to a record
level in 2006 on strong client-flow and robust global trading volumes.
professional fees from increased business activities.
Global equity indices were up 14% in local currency terms for 2006,
INVESTMENT BANKING
We take an integrated approach to client coverage, organizing
helped by strong earnings reports, lower energy prices and the end to the
bankers into industry, product and geographic groups within our
interest rate tightening cycle by central banks. Substantially all equity
Investment Banking segment. Business services provided to corporations
products in 2006 surpassed their 2005 performance, including gains in
and governments worldwide can be separated into:
cash products, prime brokerage, equity derivatives, convertibles and pro-
Global Finance
We serve our clients’ capital raising needs through
underwriting, private placements, leveraged finance and other activities
prietary and principal activities.
Net interest revenues decreased 4% in 2006 from 2005, primarily
associated with debt and equity products.
due to higher short-term U.S. interest rates, a flattened yield curve and
Advisory Services We provide business advisory services with
a change in mix of asset composition. Interest and dividends revenue and
respect to mergers and acquisitions, divestitures, restructurings and other
Interest expense increased 59% and 64%, respectively, in 2006 from 2005
corporate activities.
The following table sets forth the operating results of our Investment Banking segment.
INVESTMENT BANKING RESULTS OF OPERATIONS 1
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Global Finance—Debt
Global Finance—Equity
Advisory Services
Total revenues
Non-interest expenses
Income before taxes
PERCENT CHANGE
2007
2006
2005
$1,551
1,015
1,337
$3,903
2,880
$1,023
$1,424
815
$1,304
824
9%
25
9%
(1)
921
$3,160
766
$2,894
45
24%
20
9%
2,500
2,039
$ 660
$ 855
2007/2006
2006/2005
15
23
55%
(23)%
The following table sets forth our Investment Banking transac-
to the amount of securities actually underwritten and only include cer-
tion volumes. 2 These volumes do not always directly correlate to
tain reported underwriting activity and because revenue rates vary
Investment Banking revenues because they do not necessarily correspond
among transactions.
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Global Finance—Debt
Global Finance—Equity
Advisory Services—Completed
Advisory Services—Announced
PERCENT CHANGE
2007
2006
2005
2007/2006
$368,422
29,646
849,265
793,685
$438,026
28,306
378,448
$398,955
24,314
313,667
(16)%
5
124
533,238
419,082
49
2006/2005
10%
16
21
27
1
Investment banking revenues are net of related underwriting expenses.
2
Debt and equity underwriting volumes, as reported by Thomson Financial, an operating unit of The Thomson Corporation, are based on full credit for single-book managers and equal credit for joint-book managers.
Debt underwriting volumes include both publicly registered and Rule 144A issues of high grade and high yield bonds, sovereign, agency and taxable municipal debt, non-convertible preferred stock and mortgageand asset-backed securities. Equity underwriting volumes include both publicly registered and Rule 144A issues of common stock and convertibles. Because publicly reported debt and equity underwriting volumes
do not necessarily correspond to the amount of securities actually underwritten and do not include certain private placements and other transactions, and because revenue rates vary among transactions, publicly
reported debt and equity underwriting volumes may not be indicative of revenues in a given period. Additionally, because Advisory Services volumes are based on full credit to each of the advisors in a transaction,
and because revenue rates vary among transactions, Advisory Services volumes may not be indicative of revenues in a given period.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
2007 vs. 2006 Investment Banking net revenues totaled $3.9
announced transaction volumes increased 32% and 27%, respectively, in
billion and $3.2 billion in 2007 and 2006, respectively, an increase of
2007 from 2006, while our completed and announced volumes
24% in 2007 from 2006, reflecting record revenues for Global
increased 124% and 49%, respectively, in the same comparative period.
Finance—Debt, Global Finance—Equity and Advisory Services and a
Our global market share for publicly reported completed and
generally higher level of cross-border and international business activ-
announced transactions increased to 21% and 17%, respectively, for
ity. Non-interest expenses rose 15% in 2007 from 2006. This increase
calendar 2007, up 16% for both measures, in calendar year 2006. Our
was attributable to an increase in compensation and benefits expense
M&A fee backlog at November 30, 2007 was $374 million, up 54%
related to an increased number of employees and higher Non-
from November 30, 2006; however, that measure may not be indicative
personnel expenses. Income before taxes increased 55% in 2007 to
of the level of future business depending on changes in overall market
$1.0 billion from $660 million in 2006, and, correspondingly, pre-tax
conditions. For the calendar year 2007, our market ranking for com-
margins in 2007 were 26% compared to 21% in 2006.
pleted transactions was sixth with a 20.9% share, up from a rank of
Global Finance—Debt origination net revenues were $1.6 billion
seventh with a 15.8% share in calendar year 2006. Our market ranking
in 2007, increasing 9% from 2006. These results were driven, in part,
for announced transactions was ninth with a 17.3% share, down from
by revenues from leveraged finance which had a record first half of
a rank of eighth with a 15.5% share in calendar year 2006.
2007 but fell significantly in the latter half of 2007 as a number of
2006 vs. 2005 Investment banking revenues totaled $3.2 billion
financial sponsor-related transactions were cancelled or delayed, par-
and $2.9 billion in 2006 and 2005, respectively, representing a 9%
ticularly in the leveraged loan market. These conditions also caused
increase from the prior fiscal year. Non-interest expenses rose 23% in
certain lending commitments to be executed at lower fee levels.
2006 from 2005, attributable to an increase in compensation and ben-
Publicly reported global debt origination market volumes decreased
efits expense related to an increased number of employees and higher
3% in 2007 over 2006, with our origination market volumes decreas-
revenues, as well as higher non-personnel expenses from increased
ing 16% over the same period. Our debt origination fee backlog of
business activity. As a result, income before taxes declined 23% in 2006
$141 million at November 30, 2007 decreased 43% from November
to $660 million from $855 million in 2005.
30, 2006. Debt origination backlog may not be indicative of the level
Global Finance—Debt revenues were a record $1.4 billion in
of future business due to the frequent use of the shelf registration pro-
2006, increasing 9% over 2005 as investors took advantage of contin-
cess and changes in overall market conditions. For the calendar year
ued low interest rates, tight credit spreads and a flattened yield curve.
2007, our market ranking for publicly reported global debt origination
Revenues also increased significantly over 2005 on relatively flat vol-
was sixth with a 5.4% share, down from a rank of fourth with a 6.2%
umes due to higher margins on several large transactions. Partially
share in calendar year 2006.
offsetting these factors was a lower level of client-driven derivative
Global Finance—Equity net revenues increased 25% in 2007 to
and other capital markets–related transactions with our investment
a record $1.0 billion from 2006 revenues of $815 million, consistent
banking clients which totaled $222 million in 2006, compared with
with a 23% increase in industry-wide global equity origination market
$318 million in 2005. Publicly reported global debt origination mar-
volumes. The increase in 2007 net revenues also included strong, cus-
ket volumes increased 17% in 2006 over 2005, with our origination
tomer-driven derivative-related activity, which more than doubled
market volumes increasing 8% over the same period. Our debt origi-
from 2006 levels. On a sequential year basis, net revenues associated
nation fee backlog of $245 million at November 30, 2006 increased
with private placement transactions and accelerated stock repurchases
13% from November 30, 2005. For the calendar year 2006, our market
increased 72%. IPO net revenues increased 38% compared to the 2006
ranking for publicly reported global debt originations was fourth with
fiscal year and IPO net revenues increased within all geographic seg-
a 6.2% share, down from a rank of third with a 6.7% share in calendar
ments. Our IPO market volume for 2007 increased 17% compared to
year 2005.
fiscal year 2006, slightly lower than the 19% market increase. Our
Global Finance—Equity revenues declined 1% in 2006 to $815
equity-related fee backlog (for both filed and unfiled transactions) at
million from record 2005 revenues, despite a 35% increase in industry-
November 30, 2007 was approximately $316 million, up 11% from
wide global equity origination market volumes. Revenues in 2006
November 30, 2006; however, that measure may not be indicative of
reflected strength in IPO activities, offset by lower revenues from the
the level of future business depending on changes in overall market
Asia region, which benefited from several large transactions in 2005.
conditions. For the calendar year 2007, our market ranking for publicly
Our IPO market volume for 2006 increased 25% from fiscal year 2005,
reported global equity origination was ninth with a 3.0% share, con-
compared to the overall market’s increase of 63%. Our equity-related
sistent with our rank in calendar year 2006 during which we had a
fee backlog (for both filed and unfiled transactions) at November 30,
3.5% market share.
2006 was approximately $286 million. Our market share for publicly
Advisory Services revenues were a record $1.3 billion in 2007, up
45% from then-record revenues in 2006. Industry-wide completed and
reported global equity underwriting transactions decreased to 3.5% in
calendar 2006 from 4.8% for calendar year 2005.
49
50
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
Advisory Services revenues were $921 million in 2006, up 20%
from 2005. Industry-wide completed and announced transaction volumes increased 31% and 34%, respectively, in 2006 from 2005, while
INVESTMENT MANAGEMENT
The Investment Management business segment consists of:
Asset Management
We provide customized investment manage-
our completed and announced volumes increased 21% and 27%, respec-
ment services for high net worth clients, mutual funds and other small
tively, from the same comparative period. M&A volumes rose during the
and middle market institutional investors. Asset Management also serves
period due to increasing equity markets, strong corporate profitability
as general partner for private equity and other alternative investment
and balance sheets, and available capital raised by financial sponsors. Our
partnerships and has minority stake investments in certain alternative
global market share for publicly reported completed transactions
investment managers.
increased to 15.8% for calendar 2006, up from 13.4% in calendar year
Private Investment Management
We provide investment, wealth
2005. Our M&A fee backlog at November 30, 2006 was $243 million
advisory and capital markets execution services to high net worth and
down 1% from November 30, 2005.
middle market institutional clients.
The following table sets forth the operating results of our Investment Management segment.
INVESTMENT MANAGEMENT RESULTS OF OPERATIONS
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Principal transactions
Commissions
Interest and dividends
PERCENT CHANGE
2007
2006
2005
$ 797
$ 517
$ 418
2007/2006
2006/2005
719
630
596
14
6
45
20
56
125
(64)
54%
24%
Asset management and other
1,642
1,308
911
26
44
Total revenues
3,203
2,475
1,981
29
25
Interest expense
Net revenues
Non-interest expenses
Income before taxes
106
58
52
83
12
3,097
2,417
1,929
28
25
2,306
1,892
1,527
22
24
$ 791
$ 525
$ 402
51%
31%
The following table sets forth our Asset Management and Private Investment Management net revenues.
INVESTMENT MANAGEMENT NET REVENUES
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Asset Management
Private Investment Management
PERCENT CHANGE
2007
2006
2005
$1,877
$1,432
$1,026
1,220
985
903
$3,097
$2,417
$1,929
2007/2006
2006/2005
31%
40%
24
9
28%
25%
The following table sets forth our AUM by asset class.
COMPOSITION OF ASSETS UNDER MANAGEMENT
AT NOVEMBER 30,
IN BILLIONS
Equity
2007
PERCENT CHANGE
2006
95
$
2007/2006
2006/2005
75
13%
27%
Fixed income
75
61
55
23
11
Money markets
66
48
29
38
66
Alternative investments
34
21
16
62
31
$ 282
$ 225
$ 175
25%
29%
$ 107
$
2005
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
The following table sets forth a summary of the changes in our AUM.
CHANGES IN ASSETS UNDER MANAGEMENT
YEAR ENDED NOVEMBER 30,
IN BILLIONS
Opening balance
PERCENT CHANGE
2007
2006
2005
2007/2006
$ 225
$ 175
$ 137
Net additions
41
35
26
17
35
Net market appreciation
16
15
12
7
25
Total increase
57
50
38
14
32
$ 282
$ 225
$ 175
25%
29%
Assets Under Management
29%
2006/2005
28%
2007 vs. 2006 Investment Management net revenues ended the
second half of the fiscal year slowed as clients became less active in fixed
fiscal year up 28% compared to 2006, as Asset Management and Private
income-related products as a result of higher volatility in the global
Investment Management both achieved record results in 2007. Non-
markets and credit concerns in certain asset classes.
interest expense of $2.3 billion for 2007 increased 22% compared with
2006 vs. 2005 Net revenues totaled $2.4 billion and $1.9 billion
2006, resulting from higher levels of discretionary compensation result-
in 2006 and 2005, respectively, representing a 25% increase, as both Asset
ing from increased net revenues and numbers of employees. Non-
Management and Private Investment Management achieved then record
personnel expenses also increased, primarily due to higher brokerage,
results in 2006. Non-interest expenses totaled $1.9 billion and $1.5 bil-
clearing, exchange and distribution fees.The continued expansion of this
lion in 2006 and 2005, respectively. The 24% increase in Non-interest
business platform globally contributed to the comparative increases in
expense was driven by higher compensation and benefits associated with
Non-interest and Non-personnel expenses. Income before taxes of $791
a higher level of earnings and headcount, as well as increased Non-
million increased 51% compared with 2006. In part, this increase was
personnel expenses from continued expansion of the business, especially
reflective of higher pre-tax margins associated with revenue generated
into non–U.S. regions. Income before taxes increased 31% in 2006 to
from minority stake investments in alternative asset managers. Pre-tax
$525 million from $402 million in 2005. Pre-tax margin was 22% and
margins in 2007 were 26% compared to 22% in 2006.
21% in 2006 and 2005, respectively.
Asset Management net revenues of $1.9 billion in 2007 increased
Asset Management net revenues of $1.4 billion in 2006 increased
by 31% from 2006, reflecting significantly higher management fees,
by 40% from 2005, driven by a 29% increase in AUM and strong reve-
principally due to strong growth in AUM, and higher incentive fees.
nues from our growing alternative investment offerings, which contrib-
During the fiscal year, AUM increased $57 billion or 25% to approxi-
uted higher incentive fees in 2006 compared to 2005. AUM increased to
mately $282 billion. 72% of the increase was a result of net inflows across
a record $225 billion at November 30, 2006, up from $175 billion at
all asset categories.
November 30, 2005, with 70% of the increase resulting from net inflows.
Private Investment Management net revenues of $1.2 billion
Private Investment Management net revenues of $985 million
increased 24% in 2007 from 2006, driven both by higher equity-related
increased 9% in 2006 from 2005, driven by higher equity-related activity,
activity, especially within the volatility and cash businesses, and higher
especially within the volatility and cash businesses. Fixed income-related
fixed income-related activity, especially in credit products, securitized
activity was relatively flat in 2006 compared to 2005 as a result of clients’
products and global rates business. Fixed income-related activity in the
asset reallocations into equity products.
GEOGRAPHIC REVENUES
We organize our operations into three geographic regions:
position was risk managed within Capital Markets and Private
Europe and the Middle East, inclusive of our operations in Russia
Investment Management. Certain revenues associated with U.S. products
and Turkey;
and services that result from relationships with international clients have
■
Asia-Pacific, inclusive of our operations in Australia and India; and
been classified as international revenues using an allocation process. In
■
the Americas.
addition, expenses contain certain internal allocations, such as regional
■
Net revenues presented by geographic region are based upon the
transfer pricing, which are centrally managed. The methodology for
location of the senior coverage banker or investment advisor in the case
allocating the Firm’s revenues and expenses to geographic regions is
of Investment Banking or Asset Management, respectively, or where the
dependent on the judgment of management.
51
52
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
The following presents, in management’s judgment, a reasonable representation of each region’s contribution to our operating results.
GEOGRAPHIC OPERATING RESULTS
YEAR ENDED NOVEMBER 30,
IN MILLIONS
PERCENT CHANGE
2007
2006
2005
2007/2006
2006/2005
EUROPE AND THE MIDDLE EAST
$ 6,296
$ 4,536
$ 3,601
39%
26%
Non-interest expense
Net revenues
4,221
3,303
2,689
28
23
Income before taxes
2,075
1,233
912
68
35
ASIA-PACIFIC
Net revenues
3,145
1,809
1,650
74
10
Non-interest expense
1,831
1,191
872
54
37
Income before taxes
1,314
618
778
113
(21)
9,634
11,116
9,270
(13)
20
AMERICAS
U.S.
Other Americas
Net revenues
182
122
109
49
12
9,816
11,238
9,379
(13)
20
Non-interest expense
7,192
7,184
6,240
—
15
Income before taxes
2,624
4,054
3,139
(35)
29
Net revenues
19,257
17,583
14,630
10
20
Non-interest expense
13,244
11,678
9,801
13
Income before taxes
$ 6,013
$ 5,905
$ 4,829
TOTAL
19
2%
22%
The below charts illustrate the contribution percentage of each geographic region to our total net revenues.
2007
U.S.
50%
Asia-Pacific
16%
2006
Other
Americas
1%
Other
Americas
1%
U.S.
63%
Europe
and the
Middle East
33%
2005
U.S.
63%
Other
Americas
1%
Europe
and the
Middle East
26%
Asia-Pacific
10%
Europe
and the
Middle East
25%
Asia-Pacific
11%
2007 vs. 2006 Non-Americas net revenues rose 49% in 2007
trading strategies, as well as record customer flow activity, increased
from 2006 to a record $9.4 billion, representing 49% of total net reve-
volume and gains from principal investment activities. In Investment
nues in 2007 and 36% in 2006. The increase in 2007 net revenues was
Banking, higher net revenues reflected record results in leveraged
due to the continued growth in Capital Markets as well as the continued
finance revenue and advisory revenue, as well as equity origination. In
expansion of our Investment Management business in both the Europe
Investment Management, higher net revenues reflected a significant
and the Middle East and the Asia-Pacific regions. Non-U.S. net revenues
increase in AUM. Income before taxes for Europe and the Middle East
represented 50% and 37% of total net revenues for the 2007 and 2006
increased 68%.
fiscal years.
Net revenues in Asia-Pacific rose 74% in 2007 from 2006, reflecting
Net revenues in Europe and the Middle East rose 39% in 2007
strong performance in all business segments. Capital Markets results were
from 2006, reflecting record performance in Capital Markets—Equities,
driven by strong performances in execution services and volatility based
Investment Banking and Investment Management. In Capital
upon strong customer-demand as Asian equity markets outperformed
Markets—Equities, higher revenues were driven by improved risk and
other regions in the fiscal year. Investment Banking results were driven
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
by strong IPO activity and debt-related transactions. Investment
Markets—Fixed Income, higher revenues were driven by credit prod-
Management results are reflective of our continued development of this
ucts, securitized products and our real estate business. In Capital
business segment in this geographic sector. Income before taxes for Asia-
Markets—Equities, higher net revenues reflect strong results in equity
Pacific increased 113%.
derivatives and equity prime brokerage services. Income before taxes for
2006 vs. 2005 Non–Americas net revenues rose 21% in 2006
Europe and the Middle East increased 35%. Net revenues in Asia-Pacific
from 2005 to $6.3 billion, representing 36% of total net revenues both
rose 10% in 2006 from 2005, reflective of higher revenues in Capital
in 2006 and 2005. The increase in 2006 net revenues was due to the
Markets and the growth in Investment Management, partially offset by
continued growth in Capital Markets as well as the continued expansion
declining revenues in Investment Banking. Capital Markets net revenues
of our Investment Management business in both Europe and Asia. Net
increased in 2006 primarily from strong performances in commercial
revenues in Europe and the Middle East rose 26% in 2006 from 2005,
mortgages and real estate, equity derivatives and improved equity trading
reflective of higher revenues in Capital Markets, growth in Investment
strategies, partially offset by lower revenues from interest rate products.
Management and strong results in Investment Banking. In Capital
Income before taxes for Asia-Pacific decreased 21%.
L I Q U I D I T Y, F U N D I N G A N D C A P I TA L R E S O U R C E S
We establish and monitor compliance with guidelines for the level
excluding approximately $3.7 billion of structured note self-
and composition of our liquidity pool and asset funding, the makeup and
funding trades that are measured at fair value and managed by
size of our balance sheet and the utilization of our equity.
business units through matched, unencumbered asset portfolios
During the latter half of our 2007 fiscal year, the global capital
outside of Holdings’ liquidity pool. Our regulated entities each
markets experienced a significant contraction in available liquidity as the
maintain their own liquidity pool sized to cover the repayment
adverse market environment experienced in our third quarter continued
of the approximately $2.3 billion in aggregate of unsecured
into our fourth quarter and deteriorated further in November 2007.
debt maturing in the next twelve months issued by those regu-
Despite infusions of liquidity by central banks into the financial system,
lated entities.
broad asset classes, particularly U.S. subprime residential mortgages and
■
The funding of commitments to extend credit made by
structured credit products, remained thinly traded throughout this
Holdings and certain unregulated subsidiaries based on a
period. Notwithstanding these global market conditions, we ended the
probabilistic model. The funding of commitments to extend
period with a very strong liquidity position. At November 30, 2007, our
credit made by our regulated subsidiaries (including our banks)
liquidity pool was approximately $35 billion, up from approximately $31
is covered by the liquidity pools maintained by these regu-
billion at November 30, 2006 and down slightly from approximately $36
lated subsidiaries. For additional information, see “Contractual
billion at the end of the third quarter of the 2007 fiscal year. Long-term
Obligations and Lending-Related Commitments” below and
capital (long-term borrowings, excluding borrowings with remaining
Note 9, “Commitments, Contingencies and Guarantees,” to the
Consolidated Financial Statements.
contractual maturities within twelve months of the financial statement
date, and total stockholders’ equity) was at approximately $146 bil-
■
The anticipated impact of adverse changes on secured funding–
lion at the end of 2007 fiscal year, up from approximately $100 bil-
either in the form of a greater difference between the market and
lion at November 30, 2006 and $142 billion at the end of the third
pledge value of assets (also known as “haircuts”) or in the form
quarter of the 2007 fiscal year. Also during 2007, Holdings’ and LBI’s
of reduced borrowing availability.
credit ratings were upgraded by two credit rating agencies.
■
The anticipated funding requirements of equity repurchases as we
LIQUIDITY
Liquidity pool We maintain a liquidity pool available to Holdings
manage our equity base (including offsetting the dilutive effect of
that covers expected cash outflows for twelve months in a stressed
In addition, the liquidity pool is sized to cover the impact of a one
liquidity environment. In assessing the required size of our liquidity pool,
notch downgrade of Holdings’ long-term debt ratings, including the
we assume that assets outside the liquidity pool cannot be sold to gener-
additional collateral that would be required to be posted against deriva-
ate cash, unsecured debt cannot be issued, and any cash and unencum-
tive contracts and other secured funding arrangements. See “Credit
bered liquid collateral outside of the liquidity pool cannot be used to
Ratings” below.
support the liquidity of Holdings. Our liquidity pool is sized to cover
expected cash outflows associated with the following items:
■
our employee incentive plans). See “Equity Management” below.
The liquidity pool is invested in liquid instruments, including cash
equivalents, G-7 government bonds and U.S. agency securities, invest-
The repayment of approximately $21.5 billion of unsecured
ment grade asset-backed securities and other liquid securities that we
debt, which is all of the unsecured debt maturing in the next
believe have a highly reliable pledge value. We calculate our liquidity
twelve months issued by Holdings and our unregulated entities,
pool on a daily basis.
53
54
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
Our estimated values of the liquidity pool and other unencumbered (i.e., unpledged) asset portfolios available are:
AT NOVEMBER 30,
IN BILLIONS
2007
2006
$ 34.9
$ 31.4
63.2
39.4
98.1
70.8
33.2
22.3
Unregulated
Holdings liquidity pool at pledge value
Other unencumbered assets at market value
Regulated (1)
Unencumbered assets held by bank entities at market value (2)
Unencumbered assets held by non-bank entities at market value
Total
50.8
73.1
$193.6
$143.9
(1)
Our regulated subsidiaries, such as our U.S. and non-U.S. broker-dealers and bank entities, maintain their own liquidity pools to cover their stand-alone expected annualized cash
funding needs in a stressed liquidity environment. Unencumbered assets in regulated entities are generally restricted from transfer and therefore considered not available to support
the liquidity needs of Holdings’ or other unregulated entities.
(2)
Our deposit-taking bank entities consist of two U.S. institutions and one in Germany.
Funding of assets We fund assets based on their liquidity charac-
For a further discussion of credit ratings and the potential impacts
1
teristics, and utilize cash capital to provide financing for our long-term
funding needs. Our funding strategy incorporates the following factors:
■
62.3
95.5
of ratings downgrades, see “Credit Ratings” below.
■
Client financing—We provide secured financing to our clients
Liquid assets (i.e., assets for which we believe a reliable secured
typically through repurchase and prime broker agreements. These
funding market exists across all market environments including
financing activities can create liquidity risk if the availability
government bonds, U.S. agency securities, corporate bonds, asset-
and terms of our own secured borrowing agreements adversely
backed securities and equity securities) are primarily funded on a
change during a stressed liquidity event and we are unable to
secured basis.
reflect these changes in our client financing agreements. We
■
Secured funding “haircuts” are funded with cash capital.
mitigate this risk by entering into term secured borrowing agree-
■
Illiquid assets (e.g., fixed assets, intangible assets and margin post-
ments, in which we can fund different types of collateral at pre-
ings) and less liquid inventory positions (e.g., derivatives, private
determined collateralization levels, and by maintaining liquidity
equity investments, certain corporate loans, certain commercial
pools at our regulated broker-dealers.
mortgages and real estate positions) are funded with cash capital.
Our policy is to operate with an excess of long-term funding
Certain unencumbered assets that are not part of the liquidity pool
sources over our long-term funding requirements (“cash capital sur-
irrespective of asset quality are also funded with cash capital. These
plus”). We seek to maintain a cash capital surplus at Holdings of at least
assets are typically unencumbered because of operational and asset-
$2.0 billion. As of November 30, 2007, our cash capital surplus at
specific factors (e.g., securities moving between depots). We do not
Holdings increased to $8.0 billion, up from $6.0 billion at November 30,
assume a change in these factors during a stressed liquidity event.
2006. Additionally, at November 30, 2007 and 2006, our cash capital
■
As part of our funding strategy, we also take steps to mitigate our main
surplus in our regulated entities was approximately $12.6 billion and
sources of contingent liquidity risk as follows:
$10.0 billion, respectively.
■
■
Commitments to extend credit — Cash capital is utilized to cover
We hedge the majority of foreign exchange risk associated with
a probabilistic estimate of expected funding of commitments to
investments in subsidiaries in non–U.S. dollar currencies using foreign
extend credit. For a further discussion of our commitments, see
currency-denominated long-term debt and forwards.
“Contractual Obligations and Lending-Related Commitments”
Diversification of funding sources We seek to diversify our fund-
in this MD&A and Note 9, “Commitments, Contingencies and
ing sources. We issue long-term debt in multiple currencies and across a
Guarantees,” to the Consolidated Financial Statements.
wide range of maturities to tap many investor bases, thereby reducing
Ratings downgrade — Cash capital is utilized to cover the liquidity
our reliance on any one source.
impact of a one-notch downgrade on Holdings. A ratings down-
1
■
During 2007, we issued $86.3 billion of long-term borrow-
grade would increase the amount of collateral to be posted against
ings. Long-term borrowings (less current portion) increased to
our derivative contracts and other secured funding arrangements.
$123.2 billion at November 30, 2007, up from $81.2 billion at
Cash capital consists of stockholders’ equity, the estimated sustainable portion of core deposit liabilities at our bank subsidiaries, and liabilities with remaining term of one year or more.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
November 30, 2006 principally to support the growth in our
and $37.0 billion, respectively. If we were to operate with debt above
assets as well as to pre-fund a portion of our 2008 maturities. The
these levels, we would not include the additional amount as a source
weighted-average maturities of our long-term borrowings were
of cash capital.
■
7.1 and 6.3 years at November 30, 2007 and 2006, respectively.
■
■
We typically issue in sufficient size to create a liquid benchmark
We diversify our issuances geographically to minimize refinanc-
issuance (i.e., sufficient size to be included in the Lehman Bond
ing risk and broaden our debt-holder base. As of November 30,
Index, a widely used index for fixed income asset managers).
2007, 54% of our long-term debt was issued outside the United
Long-term debt is accounted for in our long-term-borrowings
States. In comparison, as of November 30, 2006, 49% of our long-
maturity profile at its contractual maturity date if the debt is redeemable
term debt was issued outside the United States.
at our option. Long-term debt that is repayable at par at the holder’s
In order to minimize refinancing risk, we establish limits (stated
option is included in these limits at its earliest redemption date.
as percentages of outstanding long-term borrowings) on our
Extendible issuances (which mature on an initial specified maturity
long-term borrowings anticipated to mature within any quar-
date, unless the debt holders elect to extend the term of the note for a
terly (12.5%), half-year (17.5%) and full-year (30.0%) interval. At
period specified in the note) are included in these limits at their earliest
November 30, 2007, those limits were $15.4 billion, $21.6 billion
maturity date.
The quarterly long-term borrowings maturity schedule over the next five years at November 30, 2007 is as follows:
LONG-TERM BORROWINGS MATURITY PROFILE CHART (1)
$9,000
8,000
Extendible
LTD
7,000
IN MILLIONS
6,000
5,000
4,000
3,000
2,000
(1)
2013 Q4
2013 Q3
2013 Q2
2013 Q1
2012 Q4
2012 Q3
2012 Q2
2012 Q1
2011 Q4
2011 Q3
2011 Q2
2011 Q1
2010 Q4
2010 Q3
2010 Q2
2010 Q1
2009 Q4
2009 Q3
2009 Q2
2009 Q1
1,000
Included in long-term debt is $5.1 billion of certain hybrid financial instruments with contingent early redemption features linked to market prices or other triggering events (e.g., the downgrade of a
reference obligation underlying a credit–linked note). In the above maturity table, these notes are shown at their contractual maturity. In determining the cash capital value of these notes, however,
we excluded the portion reasonably expected to mature within twelve months ($2.2 billion) from our cash capital sources at November 30, 2007.
■
We use both committed and uncommitted bilateral and syndicated
have maintained compliance with the material covenants under these
long-term bank facilities to complement our long-term debt issuance.
credit agreements at all times.We draw on both of these facilities from
In particular, Holdings maintains a $2.0 billion unsecured, committed
time to time in the normal course of conducting our business. As of
revolving credit agreement with a syndicate of banks that expires in
November 30, 2007, there were no outstanding borrowings against
February 2009. In addition, we maintain a $2.5 billion multi-currency
either Holdings’ credit facility or the European Facility.
unsecured, committed revolving credit facility (“European Facility”)
■
We have established a $2.4 billion conduit that issues secured
with a syndicate of banks for Lehman Brothers Bankhaus AG
liquidity notes to pre-fund high grade loan commitments. This
(“Bankhaus”) and Lehman Brothers Treasury Co. B.V. that expires in
is fully backed by a triple-A rated, third-party, one-year revolving
April 2010. Our ability to borrow under such facilities is conditioned
liquidity back stop, which we have in turn fully backed. This
on complying with customary lending conditions and covenants. We
conduit is consolidated in Holdings’ results of operations.
55
56
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
■
■
We participate in an A-1/P-1-rated multi-seller conduit. This
We perform regular assessments of our funding requirements in
multi-seller issues secured liquidity notes to provide financing. We
stress liquidity scenarios to best ensure we can meet all our funding
use this conduit for purposes of funding a portion of our contin-
obligations in all market environments.
gent acquisition commitments. At November 30, 2007, we were
Legal entity structure Our legal entity structure can constrain
contingently committed to providing $1.6 billion of liquidity if the
liquidity available to Holdings. Some of our legal entities, particularly our
conduit is unable to remarket the secured liquidity notes upon their
regulated broker-dealers and bank entities, are restricted in the amount
maturity, generally, one year after a failed remarketing event. This
of funds that they can distribute or lend to Holdings. For a further dis-
conduit is not consolidated in Holdings’ results of operations.
cussion, see Note 15, “Regulatory Requirements,” to the Consolidated
We own three bank entities: Lehman Brothers Bank, a U.S.-based
Financial Statements.
thrift institution, Lehman Brothers Commercial Bank, a U.S.-
Certain regulated subsidiaries are funded with subordinated debt
based industrial bank, and Bankhaus. These regulated bank entities
issuances and/or subordinated loans from Holdings, which are counted
operate in a deposit-protected environment and are able to source
as regulatory capital for those subsidiaries. Our policy is to fund subor-
low-cost unsecured funds that are primarily term deposits. These
dinated debt advances by Holdings to subsidiaries for use as regulatory
bank entities are generally insulated from a company-specific or
capital with long-term debt issued by Holdings having a maturity at least
market liquidity event, thereby providing a reliable funding source
one year greater than the maturity of the subordinated debt advance.
for their mortgage products and selected loan assets and increasing
■
our consolidated funding diversification. Overall, these bank enti-
CREDIT RATINGS
During the 2007 calendar year, Holdings’ and LBI’s credit ratings
ties have raised $29.4 billion and $21.4 billion of customer deposit
were upgraded by two of the rating agencies. Like other companies in the
liabilities as of November 30, 2007 and 2006, respectively.
securities industry, we rely on external sources to finance a significant por-
Bank facilities provide us with further diversification and flex-
tion of our day-to-day operations. The cost and availability of unsecured
ibility. For example, we draw on our committed syndicated credit
financing are affected by our short-term and long-term credit ratings.
facilities described above on a regular basis (typically 25% to
Factors that may be significant to the determination of our credit ratings
50% of the time on a weighted-average basis) to provide us with
or otherwise affect our ability to raise short-term and long-term financing
additional sources of long-term funding on an as-needed basis.
include our profit margin, our earnings trend and volatility, our cash liquid-
We have the ability to prepay and redraw any number of times
ity and liquidity management, our capital structure, our risk level and risk
and to retain the proceeds for any term up to the maturity date
management, our geographic and business diversification, and our relative
of the facility. As a result, we see these facilities as having the same
positions in the markets in which we operate. Deterioration in any of these
liquidity value as long-term borrowings with the same maturity
factors or combination of these factors may lead rating agencies to down-
dates, and we include these borrowings in our reported long-
grade our credit ratings.This may increase the cost of, or possibly limit our
term borrowings at the facility’s stated final maturity date to the
access to, certain types of unsecured financings and trigger additional col-
extent that they are outstanding as of a reporting date.
lateral requirements in derivative contracts and other secured funding
Funding action plan We have developed and regularly update a
arrangements. In addition, our debt ratings can affect certain capital mar-
Funding Action Plan, which represents a detailed action plan to manage
kets revenues, particularly in those businesses where longer-term counter-
a stress liquidity event, including a communication plan for regulators,
party performance is critical, such as over-the-counter (“OTC”) derivative
creditors, investors and clients. The Funding Action Plan considers two
transactions, including credit derivatives and interest rate swaps.
types of liquidity stress events—a Company-specific event, where there
are no issues with overall market liquidity and a broader market-wide
The current ratings of Holdings and LBI short- and long-term
senior borrowings are as follows:
event, which affects not just our Company but the entire market.
CREDIT RATINGS
In a Company-specific event, we assume we would lose access to
the unsecured funding market for a full year and have to rely on the
HOLDINGS
liquidity pool available to Holdings to cover expected cash outflows over
the next twelve months.
SHORT-TERM LONG-TERM
LBI
SHORT-TERM LONG-TERM
Standard & Poor’s
Ratings Services
A-1
A+
A-1+
AA-
specific event, we also assume that, because the event is market wide, addi-
Moody’s
Investors Service
P-1
A1
P-1
Aa3
tional counterparties to whom we have extended liquidity facilities draw
Fitch Ratings
F-1+
AA-
F-1+
AA-
on these facilities.To mitigate the effect of a market liquidity event, we have
Dominion Bond
Rating Service Limited (1)
R-1
AA
R-1
AA
(middle)
(low)
(middle)
In a market liquidity event, in addition to the pressure of a Company-
developed access to additional liquidity sources beyond the liquidity pool
at Holdings, including unutilized funding capacity in our bank entities and
unutilized capacity in our bank facilities. See “Funding of assets” above.
(1)
On December 21, 2007, Dominion Bond Rating Service Limited upgraded
Holdings’ long-term senior borrowings rating to AA (low) from A (high) and
upgraded LBI’s long-term senior borrowings rating to AA from AA (low).
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
At November 30, 2007, counterparties had the right to require
us to post additional collateral pursuant to derivative contracts and
BALANCE SHEET
Assets The assets on our balance sheet consist primarily of
other secured funding arrangements of approximately $2.4 billion.
Cash and cash equivalents, Financial instruments and other inven-
Additionally, at that date we would have been required to post
tory positions owned, and collateralized agreements. At November
additional collateral pursuant to such arrangements of approxi-
30, 2007, our total assets increased by 37% to $691.1 billion from
mately $0.1 billion in the event we were to experience a down-
$503.5 billion at November 30, 2006, due to an increase in secured
grade of our senior debt rating of one notch and a further $4.6
financing transactions and net assets. Net assets at November 30,
billion in the event we were to experience a downgrade of our
2007 increased $104.0 billion from the prior year due to increases
senior debt rating of two notches.
across most inventory categories, as well as an increase in customer
CASH FLOWS
Cash and cash equivalents of $7.3 billion at November 30, 2007
secured receivables, as we continued to grow the Firm. Our calcu-
increased by $1.3 billion from $6.0 billion at November 30, 2006, as net
segregated and on deposit for regulatory and other purposes; (ii)
cash provided by financing activities of $48.6 billion was offset by net
collateralized lending agreements; and (iii) identifiable intangible
cash used in operating activities of $45.6 billion and net cash used in
assets and goodwill. We believe net assets to be a more useful mea-
investing activities of $1.7 billion.
sure of our assets than total assets because it excludes certain low-
lation of net assets excludes from total assets: (i) cash and securities
risk, non-inventory assets. Our calculation of net assets may not be
comparable to other, similarly titled calculations by other companies as a result of different calculation methodologies.
At November 30, 2007 and 2006 our total and net assets were comprised of the following items:
NET ASSETS
AT NOVEMBER 30,
IN MILLIONS
2007
Total assets
$ 691,063
Cash and securities segregated and on deposit for regulatory and other purposes
Collateralized lending agreements
Included within net assets are real estate held for sale, certain high
yield instruments and private equity and other principal investments.
(6,091)
(301,234)
(225,156)
$ 372,959
Net assets
$ 503,545
(12,743)
(4,127)
Identifiable intangible assets and goodwill
2006
(3,362)
$ 268,936
High yield instruments We underwrite, syndicate, invest in and
make markets in high yield corporate debt securities and loans. We
Real estate held for sale We invest in real estate through direct
define high yield instruments as securities of or loans to companies
investments in equity and debt. We record real estate held for sale
rated BB+ or lower or equivalent ratings by recognized credit rat-
at the lower of its carrying amount or fair value less cost to sell. The
ing agencies, as well as non-rated securities or loans that, in man-
assessment of fair value less cost to sell generally requires the use of
agement’s opinion, are non-investment grade. High yield debt
management estimates and generally is based on property appraisals
instruments generally involve greater risks than investment grade
provided by third parties and also incorporates an analysis of the
instruments and loans due to the issuer’s creditworthiness and the
related property cash flow projections. We had real estate invest-
lower liquidity of the market for such instruments, generally. In
ments of approximately $21.9 billion and $9.4 billion at November
addition, these issuers generally have relatively higher levels of
30, 2007 and 2006, respectively. Because portions of these assets
indebtedness resulting in an increased sensitivity to adverse eco-
have been financed on a non-recourse basis, our net investment
nomic conditions. We seek to reduce these risks through active
position was limited to $12.8 billion and $5.9 billion at November
hedging strategies and through the diversification of our products
30, 2007 and 2006, respectively.
and counterparties.
57
58
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
High yield instruments are carried at fair value, with unrealized gains and losses reflected in Principal transactions in the Consolidated Statement
of Income. Our high yield instruments at November 30, 2007 and 2006 were as follows:
AT NOVEMBER 30,
IN MILLIONS
Bonds and loans in established trading markets
Bonds and loans held awaiting securitization and/or syndication
Bonds and loans with little or no pricing transparency
High yield instruments
Credit risk hedges (1)
2006
$31,457
$11,481
157
4,132
1,118
316
32,732
15,929
(2,337)
$30,395
High yield position, net
(1)
2007
(3,111)
$12,818
Credit risk hedges represent financial instruments with offsetting risk to the same underlying counterparty, but exclude other credit and market risk mitigants which are highly
correlated, such as index, basket and/or sector hedges.
The increase in high-yield positions from 2006 to 2007 is primar-
needed given our estimation of risk in our business activities, the capital
ily from funded lending commitments that have not been syndicated. At
required by laws or regulations, leverage thresholds required by the con-
November 30, 2007 and 2006, the largest industry concentrations were
solidated supervised entity (“CSE”) rules and credit rating agencies’
26% and 20%, respectively, and were in the finance and insurance indus-
perspectives of capital sufficiency.
try classifications. The largest geographic concentrations at November
We continuously evaluate deployment alternatives for our equity
30, 2007 and 2006 were 66% and 53%, respectively, in the Americas. We
with the objective of maximizing shareholder value. In periods where
mitigate our aggregate and single-issuer net exposure through the use of
we determine our levels of equity to be beyond those necessary to sup-
derivatives, non-recourse financing and other financial instruments.
port our business activities, we may return capital to shareholders
Private equity and other principal investments Our Private
through dividend payments or stock repurchases.
Equity business operates in six major asset classes: Merchant Banking,
We maintain a common stock repurchase program to manage our
Real Estate,Venture Capital, Credit-Related Investments, Private Funds
equity capital. In January 2007, our Board of Directors authorized the
Investments and Infrastructure. We have raised privately-placed funds in
repurchase, subject to market conditions, of up to 100 million shares of
these asset classes, for which we act as a general partner and in which we
Holdings common stock for the management of our equity capital,
have general and in many cases limited partner interests. In addition, we
including offsetting dilution due to employee stock awards.This autho-
generally co-invest in the investments made by the funds or may make
rization superseded the stock repurchase program authorized in 2006.
other non-fund-related direct investments. At November 30, 2007 and
Our stock repurchase program is effected through open-market pur-
2006, our private equity related investments totaled $4.2 billion and $2.1
chases, as well as through employee transactions where employees
billion, respectively. The real estate industry represented the highest con-
tender shares of common stock to pay for the exercise price of stock
centrations at 41% and 30% at November 30, 2007 and 2006, respec-
options and the required tax withholding obligations upon option
tively, and the largest single investment was approximately $275 million
exercises and conversion of restricted stock units (“RSUs”) to freely-
and $80 million, at those respective dates.
tradable common stock.
Our private equity investments are measured at fair value based on
Over the course of our 2007 fiscal year, we repurchased through
our assessment of each underlying investment, incorporating valuations
open-market purchases or withheld from employees for the purposes
that consider expected cash flows, earnings multiples and/or compari-
described above approximately 43.0 million shares of our common stock
sons to similar market transactions, among other factors.Valuation adjust-
at an aggregate cost of approximately $3.2 billion, or $73.85 per share.
ments, which usually involve the use of significant management
During 2007, we issued 15.4 million shares resulting from employee
estimates, are an integral part of pricing these instruments, reflecting
stock option exercises and another 24.5 million shares were issued out
consideration of credit quality, concentration risk, sale restrictions and
of treasury stock to an irrevocable grantor trust that holds shares for issu-
other liquidity factors. For additional information about our private
ance to employees in satisfaction of restricted stock units granted under
equity and other principal investment activities, including related com-
the Firm’s equity compensation plans (the “RSU Trust”).
mitments, see Note 9, “Commitments, Contingencies and Guarantees,”
to the Consolidated Financial Statements.
In January 2008, our Board of Directors authorized the repurchase, subject to market conditions, of up to 100 million shares of
EQUITY MANAGEMENT
The management of equity is a critical aspect of our capital man-
Holdings’ common stock for the management of the Firm’s equity
agement. Determining the appropriate amount of equity capital base is
awards. This resolution supersedes the stock repurchase program
dependent on a number of variables, including the amount of equity
authorized in 2007.
capital, including consideration of dilution due to employee stock
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
CAPITAL RATIOS
Leverage Ratios The relationship of assets to equity is one measure
low-risk, non-inventory assets and utilizes tangible equity capital as a
of a company’s capital adequacy. Generally, this leverage ratio is computed
including stockholders’ equity and junior subordinated notes and
by dividing assets by stockholders’ equity.We believe that a more meaning-
excluding identifiable intangible assets and goodwill.We believe tangible
ful, comparative ratio for companies in the securities industry is net lever-
equity capital to be a more meaningful measure of our equity base for
age, which is the result of net assets divided by tangible equity capital.
purposes of calculating net leverage because it includes instruments we
measure of our equity base. We calculate tangible equity capital by
Our net leverage ratio is calculated as net assets divided by tangible
consider to be equity-like due to their subordinated nature, long-term
equity capital. We calculate net assets by excluding from total assets: (i)
maturity and interest deferral features and we do not view the amount
cash and securities segregated and on deposit for regulatory and other
of equity used to support identifiable intangible assets and goodwill as
purposes; (ii) collateralized lending agreements; and (iii) identifiable
available to support our remaining net assets.These measures may not be
intangible assets and goodwill.We believe net leverage based on net assets
comparable to other, similarly titled calculations by other companies as a
to be a more useful measure of leverage, because it excludes certain
result of different calculation methodologies.
TANGIBLE EQUITY CAPITAL AND CAPITAL RATIOS
AT NOVEMBER 30,
IN MILLIONS
Total stockholders’ equity
Junior subordinated notes (1), (2)
2007
2006
$ 22,490
$ 19,191
4,740
2,738
(4,127)
Identifiable intangible assets and goodwill
(3,362)
Tangible equity capital
$ 23,103
$ 18,567
Total assets
$691,063
$503,545
30.7x
Leverage ratio
Net assets
$372,959
26.2x
$268,936
16.1x
Net leverage ratio
14.5x
(1)
See Note 8, “Borrowings and Deposit Liabilities,” to the Consolidated Financial Statements.
(2)
Our definition for tangible equity capital limits the amount of junior subordinated notes and preferred stock included in the calculation to 25% of tangible equity capital. The amount
excluded was approximately $237 million in 2007 and no amount was excluded in 2006.
Included below are the changes in our tangible equity capital at November 30, 2007 and 2006:
TANGIBLE EQUITY CAPITAL
AT NOVEMBER 30,
IN MILLIONS
Beginning tangible equity capital
Net income
2007
2006
$18,567
$15,564
4,192
4,007
Dividends on common stock
(351)
Dividends on preferred stock
(67)
(66)
(2,605)
(2,678)
(573)
(1,003)
Common stock open-market repurchases
Common stock withheld from employees (1)
Equity-based award plans
(2)
Net change in junior subordinated notes included in tangible equity (3)
2,829
2,002
(276)
2,396
712
Change in identifiable intangible assets and goodwill
(765)
(106)
Other, net (4)
(126)
17
Ending tangible equity capital
$23,103
$18,567
(1)
Represents shares of common stock withheld in satisfaction of the exercise price of stock options and tax withholding obligations upon option exercises and conversion of RSUs.
(2)
This represents the sum of (i) proceeds received from employees upon the exercise of stock options, (ii) the incremental tax benefits from the issuance of stock-based awards and (iii)
the value of employee services received – as represented by the amortization of deferred stock compensation.
(3)
Junior subordinated notes are deeply subordinated and have a long-term maturity and interest deferral features and are utilized in calculating equity capital by leading rating agencies.
(4)
Other, net for 2007 includes a $67 million net increase to Retained earnings from adoption of SFAS 157 and SFAS 159 and a $210 million decrease to Accumulated other comprehensive
income/(loss) from the adoption of SFAS 158. See “Accounting and Regulatory Developments” below for additional information. Other, net for 2006 includes a $6 million net decrease to
Retained earnings from the initial adoption of under SFAS 155 and SFAS No. 156, Accounting for Servicing of Financial Assets—an amendment of FASB Statement No. 140 (“SFAS 156”).
59
60
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
Primary Equity Double Leverage Primary equity double leverage
total equity capital to be a more meaningful measure of our equity than
ratio is the comparison of Holdings’ equity investments in subsidiaries to
stockholders’ equity because we consider junior subordinated notes to
total equity capital (the sum of total stockholders’ equity and junior
be equity-like due to their subordinated nature, long-term maturity and
subordinated notes). As of November 30, 2007, our equity investment in
interest deferral features. We believe primary equity double leverage
subsidiaries was $25.1 billion and our total equity capital calculated was
based on total equity capital to be a useful measure of our equity invest-
$27.5 billion.We aim to maintain a primary equity double leverage ratio
ments in subsidiaries. Our calculation of primary equity double leverage
of 1.0x or below. Our primary equity double leverage ratio was 0.91x
may not be comparable to other, similarly titled calculations by other
and 0.88x as of November 30, 2007 and 2006, respectively. We believe
companies as a result of different calculation methodologies.
C O N T R A C T U A L O B L I G AT I O N S A N D L E N D I N G - R E L AT E D C O M M I T M E N T S
CONTRACTUAL OBLIGATIONS
In the normal course of business, we enter into various contractual
table are a number of obligations recorded in the Consolidated Statement
obligations that may require future cash payments. The following table
secured financing transactions, trading liabilities, deposit liabilities at our
summarizes the contractual amounts at November 30, 2007 in total and
banking subsidiaries, commercial paper and other short-term borrow-
by remaining maturity, and at November 30, 2006. Excluded from the
ings and other payables and accrued liabilities.
of Financial Condition that generally are short-term in nature, including
TOTAL CONTRACTUAL AMOUNT
NOVEMBER 30,
EXPIRATION PER PERIOD AT NOVEMBER 30,
IN MILLIONS
Long-term borrowings
$
Operating lease obligations
Capital lease obligations
Purchase obligations
2008
2009
2010-2011
2012-LATER
2007
2006
—
$ 25,023
$ 28,146
$ 69,981
$123,150
$ 81,178
281
269
493
1,562
2,605
1,714
74
99
206
2,597
2,976
3,043
316
10
9
13
348
783
For additional information about long-term borrowings, see Note
timing of the transaction. Purchase obligations with variable pricing
8, “Borrowings and Deposit Liabilities,” to the Consolidated Financial
provisions are included in the table based on the minimum contractual
Statements. For additional information about operating and capital lease
amounts. Certain purchase obligations contain termination or
obligations, see Note 9, “Commitments, Contingencies and Guarantees,”
renewal provisions. The table reflects the minimum contractual
to the Consolidated Financial Statements.
amounts likely to be paid under these agreements assuming the con-
Purchase obligations include agreements to purchase goods or
tracts are not terminated.
services that are enforceable and legally binding and that specify all
LENDING–RELATED COMMITMENTS
The following table summarizes the contractual amounts of lend-
significant terms, including fixed or minimum quantities to be purchased, fixed, minimum or variable price provisions and the approximate
ing-related commitments at November 30, 2007 and 2006:
TOTAL CONTRACTUAL AMOUNT
NOVEMBER 30,
EXPIRATION PER PERIOD AT NOVEMBER 30,
IN MILLIONS
2008
2009
2010-2011
2012-2013
High grade (1)
$ 5,579
$ 1,039
$ 6,554
$ 10,411
High yield (2)
4,051
411
2,103
4,850
10,230
—
—
—
LATER
2007
2006
403
$ 23,986
$ 17,945
2,658
14,073
7,558
—
10,230
1,918
Lending commitments
$
Contingent acquisition facilities
High grade
High yield
Mortgage commitments
Secured lending transactions
9,749
—
—
—
—
9,749
12,766
5,082
670
1,378
271
48
7,449
12,162
122,661
455
429
468
1,846
125,859
83,071
(1)
We view our net credit exposure for high grade commitments, after consideration of hedges, to be $12.2 billion and $4.9 billion at November 30, 2007 and 2006, respectively.
(2)
We view our net credit exposure for high yield commitments, after consideration of hedges, to be $12.8 billion and $5.9 billion at November 30, 2007 and 2006, respectively.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
We use various hedging and funding strategies to actively man-
contingent acquisition commitments are generally greater than the
age our market, credit and liquidity exposures on these commitments.
amounts we expect we will ultimately fund. Further, our past practice,
We do not believe total commitments necessarily are indicative of
consistent with our credit facilitation framework, has been to syndicate
actual risk or funding requirements because the commitments may
acquisition financings to investors. The ultimate timing, amount and
not be drawn or fully used and such amounts are reported before
pricing of a syndication, however, is influenced by market conditions
consideration of hedges.
that may not necessarily be consistent with those at the time the com-
Lending commitments Through our high grade (investment
mitment was entered. We provided contingent commitments to high
grade) and high yield (non-investment grade) sales, trading and under-
grade counterparties related to acquisition financing of approximately
writing activities, we make commitments to extend credit in loan syn-
$10.2 billion and $1.9 billion at November 30, 2007 and 2006, respec-
dication transactions.These commitments and any related drawdowns of
tively, and to high yield counterparties related to acquisition financing
these facilities typically have fixed maturity dates and are contingent on
of approximately $9.8 billion and $12.8 billion at November 30, 2007
certain representations, warranties and contractual conditions applicable
and 2006, respectively.
to the borrower. We define high yield exposures as securities of or loans
Mortgage commitments Through our mortgage origination
to companies rated BB+ or lower or equivalent ratings by recognized
platforms we make commitments to extend mortgage loans. At
credit rating agencies, as well as non-rated securities or loans that, in
November 30, 2007 and 2006, we had outstanding mortgage commit-
management’s opinion, are non-investment grade.
ments of approximately $7.4 billion and $12.2 billion, respectively.
We had commitments to high grade borrowers at November 30,
These commitments included $3.0 billion and $7.0 billion of residen-
2007 and 2006 of $24.0 billion (net credit exposure of $12.2 billion, after
tial mortgages in 2007 and 2006 and $4.4 billion and $5.2 billion of
consideration of hedges) and $17.9 billion (net credit exposure of $4.9
commercial mortgages at 2007 and 2006. Typically, residential mort-
billion, after consideration of hedges), respectively.We had commitments
gage loan commitments require us to originate mortgage loans at the
to high yield borrowers of $14.1 billion (net credit exposure of $12.8
option of a borrower generally within 90 days at fixed interest rates.
billion, after consideration of hedges) and $7.6 billion (net credit expo-
Consistent with past practice, our intention is to sell residential mort-
sure of $5.9 billion, after consideration of hedges) at November 30, 2007
gage loans, once originated, primarily through securitizations. The
and 2006, respectively.
ability to sell or securitize mortgage loans, however, is dependent on
Contingent acquisition facilities We provide contingent commit-
market conditions.
ments to investment and non-investment grade counterparties related
Secured lending transactions In connection with our financing
to acquisition financing. We do not believe contingent acquisition
activities, we had outstanding commitments under certain collateralized
commitments are necessarily indicative of actual risk or funding
lending arrangements of approximately $9.8 billion and $7.5 billion at
requirements as funding is dependent both upon a proposed transac-
November 30, 2007 and 2006, respectively. These commitments require
tion being completed and the acquiror fully utilizing our commitment.
borrowers to provide acceptable collateral, as defined in the agreements,
Typically, these commitments are made to a potential acquiror in a
when amounts are drawn under the lending facilities. Advances made
proposed acquisition, which may or may not be completed depending
under these lending arrangements typically are at variable interest rates
on whether the potential acquiror to whom we have provided our
and generally provide for over-collateralization. In addition, at November
commitment is successful. A contingent borrower’s ability to draw on
30, 2007, we had commitments to enter into forward starting secured
the commitment is typically subject to there being no material adverse
resale and repurchase agreements, primarily secured by government and
change in the borrower’s financial condition, among other factors, and
government agency collateral, of $70.8 billion and $45.3 billion, respec-
the commitments also generally contain certain flexible pricing fea-
tively, compared to $44.4 billion and $31.2 billion, respectively, at
tures to adjust for changing market conditions prior to closing. In
November 30, 2006.
addition, acquirers generally utilize multiple financing sources, includ-
For additional information about lending-related commitments,
ing other investment and commercial banks, as well as accessing the
see Note 9, “Commitments, Contingencies and Guarantees,” to the
general capital markets for completing transactions. Therefore, our
Consolidated Financial Statements.
OFF-BALANCE-SHEET ARRANGEMENTS
In the normal course of business we engage in a variety of off-
45”), definition of a guarantee that may require future payments. Other
balance-sheet arrangements, including certain derivative contracts meet-
than lending-related commitments already discussed above in “Lending-
ing the FIN No. 45, Guarantor’s Accounting and Disclosure Requirements for
Related Commitments,” the following table summarizes our off-bal-
Guarantees, Including Indirect Guarantees of Indebtedness of Others (“FIN
ance-sheet arrangements at November 30, 2007 and 2006 as follows:
61
62
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
TOTAL CONTRACTUAL AMOUNT
NOVEMBER 30,
EXPIRATION PER PERIOD AT NOVEMBER 30,
IN MILLIONS
Derivative contracts
(1)
Municipal-securities-related commitments
Other commitments with variable interest entities
Standby letters of credit
Private equity and other principal investments
(1)
2008
2009
2010-2011
2012-2013
LATER
2007
2006
$ 87,394
$ 59,598
$152,317
$210,496
$228,132
$737,937
$534,585
2,362
733
86
69
3,652
6,902
1,599
106
3,100
170
963
4,772
9,111
4,902
1,685
5
—
—
—
1,690
2,380
820
675
915
173
—
2,583
1,088
We believe the fair value of these derivative contracts is a more relevant measure of the obligations because we believe the notional amount overstates the expected payout. At November
30, 2007 and 2006, the fair value of these derivative contracts approximated $36.8 billion and $9.3 billion, respectively.
In accordance with FIN 45, the table above includes only certain
Products Inc. Our equity derivative products business is conducted
derivative contracts meeting the FIN 45 definition of a guarantee. For
through Lehman Brothers Finance S.A. and Lehman Brothers OTC
additional information on these guarantees and other off-balance-sheet
Derivatives Inc. Our commodity and energy derivatives product business
arrangements, see Note 9 “Commitments, Contingencies and
is conducted through Lehman Brothers Commodity Services Inc. In addi-
Guarantees,” to the Consolidated Financial Statements.
tion, as a global investment bank, we also are a market maker in a number
DERIVATIVES
Neither derivatives’ notional amounts nor underlying instrument
of foreign currencies. Counterparties to our derivative product transac-
values are reflected as assets or liabilities in our Consolidated Statement
governments and their agencies, finance companies, insurance companies,
of Financial Condition. Rather, the market, or fair values, related to
investment companies and pension funds. We manage the risks associated
derivative transactions are reported in the Consolidated Statement of
with derivatives on an aggregate basis, along with the risks associated with
Financial Condition as assets or liabilities in Derivatives and other con-
our non-derivative trading and market-making activities in cash instru-
tractual agreements, as applicable. Derivatives are presented on a net-by-
ments, as part of our firm wide risk management policies.We use industry
counterparty basis when a legal right of offset exists, on a net-by-cross
standard derivative contracts whenever appropriate.
tions primarily are U.S. and foreign banks, securities firms, corporations,
product basis when applicable provisions are stated in a master netting
For additional information about our accounting policies and our
agreement; and/or on a net of cash collateral received or paid on a coun-
Trading-Related Derivative activities, see Note 1, “Summary of
terparty basis, provided a legal right of offset exists.
Significant Accounting Policies,” and Note 3, “Financial Instruments and
We enter into derivative transactions both in a trading capacity and
as an end-user. Acting in a trading capacity, we enter into derivative
Other Inventory Positions,” to the Consolidated Financial Statements.
transactions to satisfy the needs of our clients and to manage our own
SPECIAL PURPOSE ENTITIES
We enter into various transactions with special purpose entities
exposure to market and credit risks resulting from our trading activities
(“SPEs”). SPEs may be corporations, trusts or partnerships that are
(collectively, “Trading-Related Derivatives”).
established for a limited purpose. There are two types of SPEs—
As an end-user, we primarily use derivatives to hedge our exposure
QSPEs and VIEs.
to market risk (including foreign currency exchange and interest rate
A QSPE generally can be described as an entity whose permitted
risks) and credit risks (collectively, “End-User Derivatives”). When End-
activities are limited to passively holding financial assets and distributing
User Derivatives are interest rate swaps they are measured at fair value
cash flows to investors based on pre-set terms. Our primary involvement
through earnings and the carrying value of the related hedged item is
with QSPEs relates to securitization transactions in which transferred
adjusted through earnings for the effect of changes in the fair value of
assets, including mortgages, loans, receivables and other financial assets,
the risk being hedged. The hedge ineffectiveness in these relationships is
are sold to an SPE that qualifies as a QSPE under SFAS 140. In accor-
recorded in Interest expense in the Consolidated Statement of Income.
dance with SFAS 140 and FIN-46(R), we do not consolidate QSPEs.
When End-User Derivatives are used in hedges of net investments in
We recognize at fair value the interests we hold in the QSPEs.We derec-
non-U.S. dollar functional currency subsidiaries, the gains or losses are
ognize financial assets transferred to QSPEs, provided we have surren-
reported within Accumulated other comprehensive income/(loss), net of
dered control over the assets.
tax, in Stockholders’ equity.
Certain SPEs do not meet the QSPE criteria because their permit-
We conduct our derivative activities through a number of wholly-
ted activities are not limited sufficiently or the assets are non-qualifying
owned subsidiaries. Our fixed income derivative products business is
financial instruments (e.g., real estate).These SPEs are referred to as VIEs,
principally conducted through our subsidiary Lehman Brothers Special
and we typically use them to create securities with a unique risk profile
Financing Inc., and separately capitalized “AAA” rated subsidiaries,
desired by investors to intermediate financial risk or to invest in real
Lehman Brothers Financial Products Inc. and Lehman Brothers Derivative
estate. Examples of our involvement with VIEs include collateralized
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
debt obligations, synthetic credit transactions, real estate investments
■
We make certain liquidity commitments and guarantees to com-
through VIEs, and other structured financing transactions. Under FIN
mercial paper conduits in support of certain clients’ secured
46(R), we consolidate a VIE if we are the primary beneficiary of the
financing transactions. These commitments and guarantees obli-
entity. The primary beneficiary is the party that either (i) absorbs a
gate us to provide liquidity to these conduits in the event the
majority of the VIEs expected losses; (ii) receives a majority of the VIEs
conduits cannot obtain funding in the market; however, our obli-
expected residual returns; or (iii) both.
gation is limited to the total amount required to fund our clients’
For a further discussion of our consolidation policies, see “Critical
assets in the conduit. At November 30, 2007, the amount of these
Accounting Policies and Estimates—Consolidation Accounting Policies”
commitments was approximately $1.4 billion. We believe our
in this MD&A. For a further discussion of our securitization activities
actual risk to be limited because these liquidity commitments are
and our involvement with VIEs, see Note 6, “Securitizations and Special
supported by high quality collateral. For a further discussion of
Purpose Entities,” to the Consolidated Financial Statements.
derivative transactions, see Note 9,“Commitments, Contingencies
and Guarantees—Other Commitments and Guarantees,” to the
OTHER OFF-BALANCE-SHEET EXPOSURE
SIVs A structured investment vehicle (“SIV”) is an entity that borrows money in the form of commercial paper, medium-term notes or
Consolidated Financial Statements.
■
We provide guarantees to investors in certain VIEs. These guaran-
subordinated capital notes, and uses the proceeds to purchase assets, includ-
tees may include a guaranteed return of the investors’ initial invest-
ing asset-backed or mortgage-backed securities. We do not own, manage
ment or of the investors’ initial investment plus an agreed upon
or sponsor any SIVs. Our SIV-related exposure is limited to that acquired
return depending on the terms. At November 30, 2007, these
through proprietary investments or trading activity, specifically:
commitments were approximately $6.1 billion. We believe our
■
■
At November 30, 2007, we had approximately $75 million of bal-
actual risk to be limited because our obligations are collateralized
ance sheet exposure representing the aggregate of a fully drawn
by the VIEs’ assets and contain significant constraints under which
liquidity loan to a SIV, and medium-term notes and commercial
downside protection will be available (e.g., the VIE is required to
paper issued by SIVs bought in the primary or secondary markets.
liquidate assets in the event certain loss levels are triggered). For
We have entered into derivative transactions to which SIVs are coun-
a further discussion, see Note 9, “Commitments, Contingencies
terparties. The total notional amount of these derivative transactions
and Guarantees—Other Commitments and Guarantees,” to the
was approximately $4.1 billion at November 30, 2007.We believe the
fair value of these derivative transactions is a more relevant measure
Consolidated Financial Statements.
■
of the obligations because we believe the notional amount overstates
liquidity notes to pre-fund high grade loan commitments. This
the expected payout. At November 30, 2007, the fair value of these
conduit is consolidated in Holdings’ results of operations. This
derivative contracts approximated $50 million. For a further discussion
is fully backed by a triple-A rated, third-party, one-year revolv-
of derivative transactions, see Note 9,“Commitments, Contingencies
ing liquidity back stop, which we have in turn fully backed. This
conduit is consolidated in Holdings’ results of operations.
and Guarantees—Other Commitments and Guarantees,” to the
Consolidated Financial Statements.
■
■
We have established a $2.4 billion conduit that issues secured
■
We participate in an A-1/P-1-rated multi-seller conduit. This
Under resell or repurchase agreements, we have balance sheet
multi-seller issues secured liquidity notes to provide financing.
exposure to commercial paper issued by SIVs. This exposure
Our intention is to utilize this conduit for purposes of fund-
was approximately $14 million at November 30, 2007. For
ing a portion of our contingent acquisition commitments. At
a further discussion of resell and repurchase agreements, see
November 30, 2007, we were contingently committed to provide
Note 5, “Securities Received and Pledged as Collateral,” to the
$1.6 billion of liquidity if the conduit is unable to remarket the
Consolidated Financial Statements.
secured liquidity notes upon their maturity, generally, one year
We manage certain private equity and other alternative invest-
after a failed remarketing event. This conduit is not consolidated
ment funds which are not consolidated into our results of
in Holdings’ results of operations. For a further discussion of
operations. At November 30, 2007, a small percentage of the assets
derivative transactions, see Note 9,“Commitments, Contingencies
within those funds have SIV-related exposure.
and Guarantees—Other Commitments and Guarantees,” to the
Conduits Conduits are entities established to convey financing.
They are thinly capitalized SPE structures established on behalf of a
Consolidated Financial Statements.
■
As a dealer and agent in the commercial paper market, we hold
sponsor or sponsors that purchase assets from multiple parties, funding
a minimal amount in inventory from various conduit programs,
those purchases by issuing commercial paper. Assets held in a conduit
including the multi-seller conduit discussed above. At November
serve as collateral for the commercial paper issued by the conduit. We
30, 2007, the amount of commercial paper in our inventory from
are a sponsor, guarantor, and/or liquidity and credit facility provider to
conduit programs in which we participate, as dealer and/or agent,
certain conduits. Specifically:
was approximately $850 million.
63
64
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
RISK MANAGEMENT
Our goal is to realize returns from our business commensurate with
■
Movement of domestic and foreign currency rates.
the risks assumed. Our business activities have inherent risks that we
■
Price movements of commodities such as electricity, natural gas,
and oil.
monitor, evaluate and manage through a comprehensive risk management structure. These risks include market, credit, liquidity, operational
and reputational exposures, among others.
■
Changes in asset valuations.
Responsibility for defining and monitoring market risk tolerance
The bases of our risk control processes are:
levels is that of our Market Risk Management Department (the “MRM
We establish policies to document our risk principles, our risk
Department”). Based upon the MRM Department’s established thresh-
capacity and tolerance levels.
olds, management applies business judgment to mitigate these risks,
■
We monitor and enforce adherence to our risk policies.
managing our risk exposures by diversifying portfolios, limiting position
■
We measure quantifiable risks using methodologies and models
sizes and establishing economic hedges. Both the MRM Department
based on tested assumptions.
and management also rely upon the Quantitative Risk Management
We identify emerging risks through monitoring our portfolios,
Department (the “QRM Department”) to ensure that both quantifiable
new business development, unusual or complex transactions and
and unquantifiable risk is identified, assessed and managed.
■
■
external events and market influences.
■
Management and the MRM and QRM Departments use qualita-
We report risks to stakeholders.
tive and quantitative risk measures and analyses such as sensitivity to
RISK MANAGEMENT STRUCTURE
While risk cannot be completely eliminated, we have designed our
changes in interest rates, prices, and implied volatilities. Stress testing,
internal control environment to put appropriate risk mitigants in place. Our
changes in market factors for certain products, is performed with regu-
control processes separate the duties of risk management from revenue gen-
larity. Scenario analyses, which estimate sensitivity to a set of predefined
eration and effect management oversight of the risk management function.
market and/or external events, are also conducted periodically. A statisti-
which measures the impact on the value of existing portfolios of specific
Our overall risk limits and risk management policies, including
cal measure of the potential loss in the fair value of a portfolio due to
establishment of risk tolerance levels, are determined by the Risk
adverse movements in underlying risk factors known as value-at-risk
Committee. The Risk Committee, which includes management’s
(“VaR”) is also used to monitor and manage market risk.
Executive Committee, the Global Head of Risk Management and cer-
VaR We estimate VaR using a model that simulates the impact
tain other members of senior management, reviews our risk exposures,
market risk factors would have on our portfolio. Our calculation of VaR is
position concentrations and risk-taking activities on a weekly basis, or
an approximation of earning and loss distributions our portfolio would
more frequently as needed. Our Risk Committee allocates the usage of
realize if current market risks were observed in historical markets. Our
capital to each of our businesses and establishes trading and credit limits
method uses four years of historical data, weighted to give greater impact
for counterparties with a goal to maintain diversification of our busi-
to more recent time periods in simulating potential changes in market risk
nesses, counterparties and geographic presence.
factors, and estimates the amount that our current portfolio could lose
The Global Risk Management Division (the “Division”) is inde-
with a specified degree of confidence, over a given time interval.
pendent of revenue-generation but maintains a presence in our regional
For the table below, a one-day time interval and a 95% confidence
trading centers as well as in key sales offices.The Division’s role is to assist
level were used. This means that there is a 1-in-20 chance that daily
in explaining our risks and making them clear to management and oth-
trading net revenue losses on a particular day would exceed the
ers. The organization of the Division reflects our integrated approach to
reported VaR.
risk management, bringing together the skill sets of credit, market, quantitative, sovereign and operational risk management groups.
In a historical simulation VaR, portfolio positions have offsetting
risk characteristics, referred to as diversification benefit. We measure the
MARKET RISK
Market risk is the potential change to the market value of our trad-
diversification benefit within our portfolio by historically simulating
ing and investing positions.We assume market risk in our market-making,
tion to each other as opposed to using a static estimate of a diversifica-
specialist, proprietary trading, investing and underwriting activities.
tion benefit, which remains relatively constant from period to period.
■
Market risk can result from changes in market variables, including:
From time to time there will be changes in our historical simulation VaR
Changes in the level, slope or shape of yield curves (interest rates),
due to changes in the diversification benefit across our portfolio of
widening or tightening of general spread levels (credit or credit-
financial instruments.
related spreads) and volatility of interest rates.
■
how the positions in our current portfolio would have behaved in rela-
VaR measures have inherent limitations including: historical market
Directional movements in prices and volatilities of individual
conditions and historical changes in market risk factors may not be
equities, equity baskets and equity indices.
accurate predictors of future market conditions or future market risk
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
factors; VaR measurements are based on current positions, while future
There is no uniform industry methodology for estimating VaR.
risk depends on future positions; and VaR based on a one-day measure-
Different assumptions concerning the number of risk factors, the dura-
ment period does not fully capture the market risk of positions that
tion of the time series and daily changes in these risk factors, as well as
cannot be liquidated or hedged within one day. VaR is not intended to
different methodologies could produce materially different results and
capture worst case scenario losses and we could incur losses greater than
therefore caution should be used when comparing VaR measures among
the VaR amounts reported.
comparable institutions.
VaR – HISTORICAL SIMULATION
AVERAGE VaR
FOR YEAR ENDED
IN MILLIONS
HIGH/LOW VAR FOR YEAR ENDED NOVEMBER 30,
2007
2006
NOV 30, 2007
NOV 30, 2006
HIGH
LOW
HIGH
LOW
Interest rate risk
$ 64
$ 35
$123
$ 33
$ 64
$ 23
Equity price risk
43
19
79
21
31
11
Foreign exchange risk
9
5
16
5
7
2
Commodity risk
7
4
16
4
11
1
(32)
(21)
$155
$ 48
$ 74
$ 29
Diversification benefit
$ 91
$ 42
AT
IN MILLIONS
NOV 30, 2007
AUG 31, 2007
MAY 31, 2007
FEB 28, 2007
NOV 30, 2006
Interest rate risk
$ 96
$ 79
$ 51
$ 58
$ 48
Equity price risk
50
46
54
26
20
Foreign exchange risk
11
7
6
7
5
Commodity risk
13
8
7
5
6
(46)
(40)
(31)
(21)
(25)
Diversification benefit
$ 124
$100
$ 87
$ 75
$ 54
AVERAGE VaR THREE MONTHS ENDED
IN MILLIONS
NOV 30, 2007
AUG 31, 2007
MAY 31, 2007
FEB 28, 2007
NOV 30, 2006
Interest rate risk
$ 89
$ 68
$ 54
$ 41
$ 41
Equity price risk
51
45
43
34
20
Foreign exchange risk
10
8
7
11
5
Commodity risk
11
8
6
5
5
(37)
(33)
(32)
(28)
(23)
Diversification benefit
$124
$ 96
$ 78
$ 63
$ 48
The increase in both the period end and quarterly average historical
ness day.This compares with an expectation that actual losses would exceed
simulation VaR was primarily due to increased market volatilities which
daily net trading losses on 5% of occasions using a 95% confidence level.
increased the overall risk across multiple business segments. Coincident
Real estate investments are not financial instruments and therefore
with the increased market volatilities across many asset classes was a reduc-
not contemplated within the VaR calculation. We use stress testing to
tion in diversification between the individual components of market risk.
evaluate risks associated with our real estate portfolios. As of November 30,
As part of our risk management control processes, we monitor daily
2007, we had approximately $21.9 billion of real estate investments; how-
trading net revenues compared with reported historical simulation VaR as
ever, our net investment at risk was limited to $12.8 billion as a portion of
of the end of the prior business day. In the 2007 fiscal year, there were
these assets have been financed on a non-recourse basis. As of November
four days or 1.6% of days in the period, all occurring in the second half
30, 2007, we estimate that a hypothetical 10% decline in the underlying
of the twelve month period, when our daily net trading loss exceeded
property values associated with the non-syndicated investments would
our historical simulation VaR as measured at the close of the previous busi-
have resulted in a net revenue loss of approximately $980 million.
65
66
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
CREDIT RISK
Credit risk represents the loss incurred as a result of failure by a client,
on a stand-alone basis as well as our aggregate risk exposure to the
obligor are considered.
counterparty or issuer to meet its contractual obligations. Credit risk is
Credit Risk on Derivatives Derivatives are exchange traded or
inherent in traditional banking products – loans, commitments to lend and
privately negotiated contracts that derive their value from an underlying
contingent liabilities – and in “traded” products – derivative contracts such
asset. Derivatives are useful for risk management because the fair values
as forwards, swaps and options, repurchase agreements (repos and reverse
or cash flows of derivatives can be used to offset the changes in fair
repos), debt securities and securities borrowing and lending transactions.
values or cash flows of other financial instruments. In addition to risk
Management and in particular our Credit Risk Management
management, we enter into derivative transactions for purposes of client
Department (the “CRM Department”) define and monitor credit
transactions or establishing trading positions. The presentation of deriva-
risk and exposure. The CRM Department approves counterparties,
tives in our Consolidated Statement of Financial Position is net of pay-
assigns internal risk ratings, and establishes credit limits, among other
ments and receipts and, in instances where management determines a
risk mitigation procedures. The CRM Department monitors and
legal right of offset exists as a result of a netting agreement, net-by-
reviews counterparty risk ratings, current credit exposures and
counterparty. Risk for an OTC derivative includes credit risk associated
potential credit exposures across products and recommends valuation
with the counterparty in the negotiated contract and continues for the
adjustments, when appropriate. Given market events or counterpar-
duration of that contract.
ties’ changes in financial conditions, additional review and adjustment
The fair value of our OTC derivative assets at November 30, 2007
procedures may be undertaken. We also seek to reduce our current
and 2006, was $41.3 billion and $19.5 billion, respectively; however, we
and potential credit exposures by entering into agreements that: off-
view our net credit exposure to have been $34.6 billion and $15.6 bil-
set receivables from and payables to a counterparty; obtain upfront or
lion at November 30, 2007 and 2006, respectively, representing the fair
contingent collateral from counterparties; provide a third-party guar-
value of OTC derivative contracts in a net receivable position after con-
antee for a counterparty’s obligations; and transfer our credit risk to
sideration of collateral.
third parties using structures or techniques such as credit derivatives.
The following tables set forth the fair value of OTC derivative
Working with the MRM Department, the CRM Department also
assets and liabilities by contract type and related net credit exposure, as
participates in transaction approval, where the risks of the transaction
of November 30, 2007 and November 30, 2006, respectively.
FAIR VALUE OF OTC DERIVATIVE CONTRACTS BY MATURITY
NOVEMBER 30, 2007
IN MILLIONS
GREATER
THAN 10
YEARS
CROSS
MATURITY,
CROSS
PRODUCT
AND CASH
COLLATERAL
OTC
NETTING (1) DERIVATIVES
NET
CREDIT
EXPOSURE
LESS
THAN
1 YEAR
1 TO 5
YEARS
5 TO 10
YEARS
$ 4,814
2,940
8,015
4,615
$ 22,407
432
866
2,469
$ 13,915
390
89
629
$ 15,901
166
15
2,470
$(35,009)
(1,449)
(535)
(1,826)
$ 22,028
2,479
8,450
8,357
$ 21,718
1,954
6,890
4,043
$ 20,384
$ 26,174
$ 15,023
$ 18,552
$(38,819)
$ 41,314
$ 34,605
$ 4,499
3,578
5,474
5,007
$ 12,355
540
608
5,584
$ 11,483
530
322
795
$ 11,873
126
2
2,928
$(29,295)
(1,886)
(382)
(5,035)
$ 10,915
2,888
6,024
9,279
$ 18,558
$ 19,087
$ 13,130
$ 14,929
$(36,598)
$ 29,106
ASSETS
Interest rate, currency and credit default swaps and options
Foreign exchange forward contracts and options
Other fixed income securities contracts (2)
Equity contracts
LIABILITIES
Interest rate, currency and credit default swaps and options
Foreign exchange forward contracts and options
Other fixed income securities contracts (3)
Equity contracts
(1)
Cross-maturity netting represents the netting of receivable balances with payable balances for the same counterparty across maturity and product categories. Receivable and payable
balances with the same counterparty in the same maturity category are netted within the maturity category when appropriate. Cash collateral received or paid is netted on a counterparty
basis, provided legal right of offset exists. Assets and liabilities at November 30, 2007 were netted down for cash collateral of approximately $19.7 billion and $17.5 billion, respectively.
(2)
Includes commodity derivative assets of $1.5 billion.
(3)
Includes commodity derivative liabilities of $1.5 billion.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
NOVEMBER 30, 2006
IN MILLIONS
LESS
THAN
1 YEAR
1 TO 5
YEARS
5 TO 10
YEARS
GREATER
THAN 10
YEARS
CROSS
MATURITY,
CROSS
PRODUCT
AND CASH
COLLATERAL
OTC
NETTING (1) DERIVATIVES
NET
CREDIT
EXPOSURE
$ 8,848
ASSETS
Interest rate, currency and credit default swaps and options
$ 1,514
$ 7,332
$ 10,121
$ 8,792
$(19,125)
$ 8,634
Foreign exchange forward contracts and options
2,560
472
62
43
(1,345)
1,792
1,049
Other fixed income securities contracts (2)
4,305
3
—
—
—
4,308
3,856
Equity contracts
3,142
2,741
870
362
(2,376)
4,739
1,854
$ 11,521
$ 10,548
$ 11,053
$ 9,197
$(22,846)
$ 19,473
$ 15,607
LIABILITIES
Interest rate, currency and credit default swaps and options
$ 2,262
$ 5,481
$ 5,012
$ 6,656
$(13,720)
$ 5,691
Foreign exchange forward contracts and options
3,204
883
240
33
(2,215)
2,145
Other fixed income securities contracts(3)
2,596
8
—
—
—
2,604
Equity contracts
3,375
3,736
1,377
260
(4,004)
4,744
$ 11,437
$ 10,108
$ 6,629
$ 6,949
$(19,939)
$ 15,184
(1)
Cross-maturity netting represents the netting of receivable balances with payable balances for the same counterparty across maturity and product categories. Receivable and payable
balances with the same counterparty in the same maturity category are netted within the maturity category when appropriate. Cash collateral received or paid is netted on a counterparty
basis, provided legal right of offset exists. Assets and liabilities at November 30, 2006 were netted down for cash collateral of approximately $11.1 billion and $8.2 billion, respectively.
(2)
Includes commodity derivative assets of $268 million.
(3)
Includes commodity derivative liabilities of $277 million.
Presented below is an analysis of net credit exposure at November 30, 2007 and 2006 for OTC contracts based on actual ratings made by
external rating agencies or by equivalent ratings established and used by our CRM Department.
NET CREDIT EXPOSURE
TOTAL
COUNTERPARTY
RISK RATING
iAAA
iAA
iA
iBBB
iBB
iB or lower
S&P/MOODY’S
EQUIVALENT
AAA/Aaa
LESS THAN
1 YEAR
5%
1 TO 5
YEARS
5 TO 10
YEARS
5%
6%
GREATER THAN
10 YEARS
NOVEMBER 30,
2007
NOVEMBER 30,
2006
8%
24%
14%
AA/Aa
14
5
3
4
26
39
A/A
10
5
6
16
37
31
BBB/Baa
3
1
1
2
7
11
BB/Ba
2
1
—
—
3
4
—
B/B1 or lower
REVENUE VOLATILITY
The overall effectiveness of our risk management practices can be
evaluated on a broader perspective when analyzing the distribution of
daily net trading revenues over time. We consider net trading revenue
1
1
1
35%
18%
17%
30%
3
1
100%
100%
volatility over time to be a comprehensive evaluator of our overall risk
management practices because it incorporates the results of virtually all
of our trading activities and types of risk.
67
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
The following table shows a measure of daily trading net rev-
net revenues over the previous rolling 250 trading days, measured at
enue volatility, utilizing actual daily trading net revenues over the
a 95% confidence level.This means there is a 1-in-20 chance that actual
previous rolling 250 trading days at a 95% confidence level. This
daily trading net revenues would be expected to decline by an amount in
measure represents the loss relative to the median actual daily trading
excess of the reported revenue volatility measure.
HIGH/LOW REVENUE VOLATILITY FOR
YEAR ENDED NOVEMBER 30,
2007
2006
AVERAGE REVENUE VOLATILITY FOR
YEAR ENDED NOVEMBER 30,
IN MILLIONS
2007
2006
HIGH
LOW
HIGH
LOW
Interest rate risk
Equity price risk
Foreign exchange risk
Commodity risk
Diversification benefit
$ 38
29
5
3
(27)
$ 48
$ 25
19
3
1
(13)
$ 35
$ 75
45
7
5
$ 27
23
5
2
$ 28
24
5
4
$ 23
14
2
2
$ 95
$ 33
$ 38
$ 34
AUG 31, 2007
AT
MAY 31, 2007
FEB 28, 2007
NOV 30, 2006
IN MILLIONS
NOV 30, 2007
Interest rate risk
Equity price risk
Foreign exchange risk
Commodity risk
Diversification benefit
$ 75
44
6
4
(34)
$ 95
IN MILLIONS
$ 54
34
6
4
$(35)
$ 63
$ 31
25
5
3
(28)
$ 36
$ 29
25
5
2
(26)
$ 35
$ 27
24
5
2
(21)
$ 37
AVERAGE REVENUE VOLATILITY THREE MONTHS ENDED
AUG 31, 2007
MAY 31, 2007
FEB 28, 2007
NOV 30, 2006
NOV 30, 2007
Interest rate risk
Equity price risk
Foreign exchange risk
Commodity risk
Diversification benefit
$ 58
41
6
4
(34)
$ 75
$ 35
28
5
4
(28)
$ 44
$ 31
25
5
3
(27)
$ 37
$ 28
24
5
2
(24)
$ 35
$ 27
23
5
2
(21)
$ 36
Average trading net revenue volatility measured in this manner
The following chart sets forth the frequency distribution for
was $48 million for the year ended November 30, 2007, a 37% increase
daily trading net revenues for our Capital Markets and Investment
from the comparable measure for the year ended November 30, 2006.
Management business segments (including trading activity in the
The increase of this measurement in fiscal year 2007 was primarily
fixed income and equity markets undertaken on behalf of client
driven by increased volatilities in overall markets.
investors and excluding any trading activity undertaken on behalf of
those investors in private equity offerings) for the years ended
November 30, 2007 and 2006:
95
100
2007
2006
90
77
80
NUMBER OF DAYS
68
70
59
60
51
49
50
40
27
31
26
30
16
17
17
20
10
11
2
<($25)
5
3
$ ($25)-0
14
$0-25
$25-50
$50-75
IN MILLIONS
$75-100
$100-$125
>$125
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
For the year ended November 30, 2007, the largest loss in daily
years, we have substantially upgraded and expanded the capabilities of
trading net revenues on any single day was $137 million. For the year
our data processing systems and other operating technology, and we
ended November 30, 2006, the largest loss in daily trading net reve-
expect that we will need to continue to upgrade and expand in the
nues on any single day was $59 million.
future to avoid disruption of, or constraints on, our operations.
The Operational Risk Management Department is responsible for
LIQUIDITY RISK
Liquidity risk is the potential that we are unable to:
implementing and maintaining our overall global operational risk man-
■
Meet our payment obligations when due;
agement framework, which seeks to minimize these risks through assess-
■
Borrow funds in the market on an on-going basis and at an
ing, reporting, monitoring and mitigating operational risks.
acceptable price to fund actual or proposed commitments; or
■
We have a company-wide business continuity plan (the “BCP”).The
Liquidate assets in a timely manner at a reasonable price.
BCP objective is to ensure that we can continue critical operations with
Management’s Finance Committee is responsible for developing,
limited processing interruption in the event of a business disruption. The
implementing and enforcing our liquidity, funding and capital policies.
business continuity group manages our internal incident response process
These policies include recommendations for capital and balance sheet
and develops and maintains continuity plans for critical business functions
size as well as the allocation of capital to the business units.
and infrastructure. This includes determining how vital business activities
Management’s Finance Committee oversees compliance with policies
will be performed until normal processing capabilities can be restored.The
and limits with the goal of ensuring we are not exposed to undue
business continuity group is also responsible for facilitating disaster recov-
liquidity, funding or capital risk.
ery and business continuity training and preparedness for our employees.
Our liquidity strategy seeks to ensure that we maintain sufficient
liquidity to meet all of our funding obligations in all market environments. That strategy is centered on five principles:
■
■
■
■
■
REPUTATIONAL AND OTHER RISK
We recognize that maintaining our reputation among clients, investors, regulators and the general public is critical. Maintaining our reputa-
Maintaining a liquidity pool that is of sufficient size to cover expected
tion depends on a large number of factors, including the selection of our
cash outflows for one year in a stressed liquidity environment.
clients and the conduct of our business activities. We seek to maintain
Relying on secured funding only to the extent that we believe it
our reputation by screening potential clients and by conducting our
would be available in all market environments.
business activities in accordance with high ethical standards.
Diversifying our funding sources to minimize reliance on any
Potential clients are screened through a multi-step process that
given provider.
begins with the individual business units and product groups. In screen-
Assessing our liquidity at the legal entity level. For example,
ing clients, these groups undertake a comprehensive review of the client
because our legal entity structure can constrain liquidity available
and its background and the potential transaction to determine, among
to Holdings, our liquidity pool excludes liquidity that is restricted
other things, whether they pose any risks to our reputation. Potential
from availability to Holdings.
transactions are screened by independent committees in the Firm, which
Maintaining a comprehensive funding action plan to manage a
are composed of senior members from various corporate divisions of the
stress liquidity event, including a communication plan for regula-
Company including members of the Division.These committees review
tors, creditors, investors and clients.
the nature of the client and its business, the due diligence conducted by
For further discussion of our liquidity positions, see “Liquidity,
the business units and product groups and the proposed terms of the
Funding and Capital Resources” in this MD&A.
OPERATIONAL RISK
Operational risk is the risk of loss resulting from inadequate or
failed internal processes, people and systems, or from external causes,
transaction to determine overall acceptability of the proposed transaction. In so doing, the committees evaluate the appropriateness of the
transaction, including a consideration of ethical and social responsibility
issues and the potential effect of the transaction on our reputation.
whether deliberate, accidental or natural. Operational risk may arise from
We are exposed to other risks having an ability to adversely impact
mistakes, intentional or otherwise, in the execution, confirmation or
our business. Such risks include legal, geopolitical, tax and regulatory risks
settlement of transactions or from transactions not being properly
that may come to bear due to changes in local laws, regulations, accounting
recorded, evaluated or accounted. Our businesses are highly dependent
standards or tax statutes.To assist in the mitigation of such risks, we moni-
on our ability to daily process a large number of transactions across
tor and review regulatory, statutory or legal proposals that could impact
numerous and diverse markets in many currencies, and these transactions
our businesses. See “Certain Factors Affecting Results of Operations”
have become increasingly complex. Consequently, we rely heavily on
above and “Risk Factors” in Part I, Item 1A in the Form 10-K.
our financial, accounting and other data processing systems. In recent
69
70
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
2-FOR-1 STOCK SPLIT
On April 5, 2006, the stockholders of Holdings approved an increase
18, 2006, which was paid on April 28, 2006. On April 5, 2006, the
in the Company’s authorized shares of common stock to 1.2 billion from
Company’s Restated Certificate of Incorporation was amended to effect
600 million, and the Board of Directors approved a 2-for-1 common
the increase in authorized common shares.
stock split, in the form of a stock dividend, for holders of record as of April
A C C O U N T I N G A N D R E G U L AT O RY D E V E L O P M E N T S
The following summarizes accounting standards that have been
outlines a fair value hierarchy based on inputs used to measure fair value
issued during the periods covered by the Consolidated Financial
and enhances disclosure requirements for fair value measurements. SFAS
Statements and the effect of adoption on our results of operations, if any,
157 does not change existing guidance as to whether or not an instru-
actual or estimated.
ment is carried at fair value.
SFAS 123(R) In December 2004, the FASB issued SFAS 123(R),
SFAS 157 also (i) nullifies the guidance in EITF No. 02-3, Accounting
which establishes standards of accounting for transactions in which an
for Derivative Contracts Held for Trading Purposes and Contracts Involved in
entity exchanges its equity instruments for goods and services and focuses
Energy Trading and Risk Management Activities (“EITF 02-3”) that pre-
primarily on accounting for transaction in which an entity obtains
cluded the recognition of a trading profit at the inception of a derivative
employee services in share-based payment transactions. Two key differ-
contract, unless the fair value of such derivative was obtained from a
ences between SFAS No. 123, Accounting for Stock-Based Compensation, and
quoted market price or other valuation technique incorporating observ-
SFAS 123(R) relate to the attribution of compensation costs to reporting
able inputs; (ii) clarifies that an issuer’s credit standing should be considered
periods and accounting for award forfeitures. SFAS 123(R) generally
when measuring liabilities at fair value; (iii) precludes the use of a liquidity
requires the immediate expensing of equity-based awards granted to
or block discount when measuring instruments traded in an active market
retirement-eligible employees or awards granted subject to substantive
at fair value; and (iv) requires costs related to acquiring financial instru-
non-compete agreements be expensed over the non-compete period.
ments carried at fair value to be included in earnings as incurred.
SFAS 123(R) also requires expected forfeitures to be included in deter-
We elected to early adopt SFAS 157 at the beginning of 2007 fiscal
mining stock-based employee compensation expense. We adopted SFAS
year and we recorded the difference between the carrying amounts and
123(R) as of the beginning of our 2006 fiscal year and recognized an after-
fair values of (i) stand-alone derivatives and/or certain hybrid financial
tax gain of approximately $47 million as the cumulative effect of a change
instruments measured using the guidance in EITF 02-3 on recognition
in accounting principle attributable to the requirement to estimate forfei-
of a trading profit at the inception of a derivative, and (ii) financial
tures at the date of grant instead of recognizing them as incurred. For
instruments that are traded in active markets that were measured at fair
additional information, see Note 12, “Share-Based Employee Incentive
value using block discounts, as a cumulative-effect adjustment to open-
Plans,” to the Consolidated Financial Statements.
ing retained earnings. As a result of adopting SFAS 157, we recognized a
SFAS 155 In February 2006, the FASB issued SFAS 155, which
$45 million after-tax ($78 million pre-tax) increase to opening retained
permits an entity to measure at fair value any hybrid financial instrument
earnings. For additional information regarding our adoption of SFAS
that contains an embedded derivative that otherwise would require
157, see Note 4,“FairValue of Financial Instruments,” to the Consolidated
bifurcation. As permitted, we early adopted SFAS 155 in the first quarter
Financial Statements.
of 2006. The effect of adoption resulted in a $24 million after-tax ($43
SFAS 158 In September 2006, the FASB issued SFAS No. 158,
million pre-tax) decrease to opening retained earnings as of the begin-
Employers’ Accounting for Defined Benefit Pension and Other Retirement
ning of our 2006 fiscal year, representing the difference between the fair
Plans (“SFAS 158”), which requires an employer to recognize the over-
value of these hybrid financial instruments and the prior carrying value
or under-funded status of its defined benefit postretirement plans as an
as of November 30, 2005.
asset or liability in its Consolidated Statement of Financial Condition,
SFAS 156 In March 2006, the FASB issued SFAS 156, which per-
measured as the difference between the fair value of the plan assets and
mits entities to elect to measure servicing assets and servicing liabilities at
the benefit obligation. For pension plans the benefit obligation is the
fair value and report changes in fair value in earnings. As a result of adopt-
projected benefit obligation while for other postretirement plans the
ing SFAS 156, we recognized an $18 million after-tax ($33 million pre-
benefit obligation is the accumulated postretirement obligation. Upon
tax) increase to opening retained earnings in our 2006 fiscal year.
adoption, SFAS 158 requires an employer to recognize previously unrec-
SFAS 157 In September 2006, the FASB issued SFAS 157. SFAS
ognized actuarial gains and losses and prior service costs within
157 defines fair value, establishes a framework for measuring fair value,
Accumulated other comprehensive income/(loss) (net of tax), a compo-
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
nent of Stockholders’ equity. In accordance with the guidance in SFAS
maintain for uncertain tax positions. This interpretation of SFAS No.
No.158, we adopted this provision of the standard for the year ended
109, Accounting for Income Taxes, uses a two-step approach wherein a tax
November 30, 2007. The adoption of SFAS No.158 reduced
benefit is recognized if a position is more likely than not to be sustained,
Accumulated other comprehensive income/(loss), by $210 million after-
and the amount of benefit is then measured on a probabilistic approach,
tax ($344 million pre-tax) at November 30, 2007.
as defined in FIN 48. FIN 48 also sets out disclosure requirements to
SFAS 159 In February 2007, the FASB issued SFAS 159 which
enhance transparency of an entity’s tax reserves. We must adopt FIN 48
permits certain financial assets and financial liabilities to be measured at
as of the beginning of our 2008 fiscal year. We estimate that the effect of
fair value, using an instrument-by-instrument election. The initial effect
adopting FIN 48 at the beginning of the first quarter of 2008 to be a
of adopting SFAS 159 must be accounted for as a cumulative-effect
decrease to opening retained earnings of approximately $190 million.
adjustment to opening retained earnings for the fiscal year in which we
SOP 07-1 In June 2007, the AICPA issued Statement of Position
apply SFAS 159. Retrospective application of SFAS 159 to fiscal years
(“SOP”) No. 07-1, Clarification of the Scope of the Audit and Accounting
preceding the effective date is not permitted.
Guide Investment Companies and Accounting by Parent Companies and Equity
We elected to early adopt SFAS 159 beginning in our 2007 fiscal year
Method Investors for Investments in Investment Companies (“SOP 07-1”).
and to measure at fair value substantially all hybrid financial instruments
SOP 07-1 addresses when the accounting principles of the AICPA Audit
not previously accounted for at fair value under SFAS No. 155, as well as
and Accounting Guide Investment Companies must be applied by an
certain deposit liabilities at our U.S. banking subsidiaries. We elected to
entity and whether those accounting principles must be retained by a par-
adopt SFAS 159 for these instruments to reduce the complexity of
ent company in consolidation or by an investor in the application of the
accounting for these instruments under SFAS No. 133, Accounting for
equity method of accounting. SOP 07-1 is effective for our fiscal year
Derivative Instruments and Hedging Activities. As a result of adopting SFAS
beginning December 1, 2008. We are evaluating the effect of adopting
159, we recognized a $22 million after-tax increase ($35 million pre-tax)
SOP 07-1 on our Consolidated Financial Statements.
to opening retained earnings as of December 1, 2006, representing the
EITF Issue No. 04-5 In June 2005, the FASB ratified the consensus
effect of changing the measurement basis of these financial instruments
reached in EITF 04-5 which requires general partners (or managing
from an adjusted amortized cost basis at November 30, 2006 to fair value.
members in the case of limited liability companies) to consolidate their
SFAS 141(R) In December 2007, the FASB issued SFAS No.
partnerships or to provide limited partners with either (i) rights to
141(R), Business Combinations (“SFAS 141(R)”). SFAS 141(R) expands
remove the general partner without cause or to liquidate the partnership;
the definition of transactions and events that qualify as business combi-
or (ii) substantive participation rights. As the general partner of numerous
nations; requires that the acquired assets and liabilities, including contin-
private equity and asset management partnerships, we adopted EITF
gencies, be recorded at the fair value determined on the acquisition date
04-5 effective June 30, 2005 for partnerships formed or modified after
and changes thereafter reflected in revenue, not goodwill; changes the
June 29, 2005. For partnerships formed on or before June 29, 2005 that
recognition timing for restructuring costs; and requires acquisition costs
had not been modified, we adopted EITF 04-5 as of the beginning of
to be expensed as incurred. Adoption of SFAS 141(R) is required for
our 2007 fiscal year. The adoption of EITF 04-5 did not have a material
combinations after December 15, 2008. Early adoption and retroactive
effect on our Consolidated Financial Statements.
application of SFAS 141(R) to fiscal years preceding the effective date
FSP FIN 46(R)-6 In April 2006, the FASB issued FASB Staff
are not permitted. We are evaluating the impact of adoption on our
Position (“FSP”) FIN 46(R)-6, Determining the Variability to Be Considered
Consolidated Financial Statements.
in Applying FASB Interpretation No. 46(R) (“FSP FIN 46(R)-6”).This FSP
SFAS 160 In December 2007, the FASB issued SFAS No. 160,
addresses how a reporting enterprise should determine the variability to
Noncontrolling Interest in Consolidated Financial Statements (“SFAS 160”).
be considered in applying FIN 46(R) by requiring an analysis of the pur-
SFAS 160 re-characterizes minority interests in consolidated subsidiar-
pose for which an entity was created and the variability that the entity was
ies as non-controlling interests and requires the classification of minor-
designed to create. We adopted FSP FIN 46(R)-6 on September 1, 2006
ity interests as a component of equity. Under SFAS 160, a change in
and applied it prospectively to all entities in which we first became
control will be measured at fair value, with any gain or loss recognized
involved after that date. Adoption of FSP FIN 46(R)-6 did not have a
in earnings.The effective date for SFAS 160 is for annual periods begin-
material effect on our Consolidated Financial Statements.
ning on or after December 15, 2008. Early adoption and retroactive
FSP FIN 39-1 In April 2007, the FASB directed the FASB Staff
application of SFAS 160 to fiscal years preceding the effective date are
to issue FSP No. FIN 39-1, Amendment of FASB Interpretation No. 39
not permitted. We are evaluating the impact of adoption on our
(“FSP FIN 39-1”). FSP FIN 39-1 modifies FIN No. 39, Offsetting of
Consolidated Financial Statements.
Amounts Related to Certain Contracts, and permits companies to offset
FIN 48 In June 2006, the FASB issued FIN 48, Accounting for
cash collateral receivables or payables with net derivative positions
Uncertainty in Income Taxes (“FIN 48”), which sets out a framework for
under certain circumstances. FSP FIN 39-1 is effective for fiscal years
management to use to determine the appropriate level of tax reserves to
beginning after November 15, 2007, with early adoption permitted.
71
72
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
FSP FIN 39-1 does not affect our Consolidated Financial Statements
(“rollover approach”) and an approach that considers the cumulative
because it clarified the acceptability of existing market practice,
amount by which the current-year statement of financial condition is
which we use, of netting cash collateral against net derivative assets
misstated (“iron-curtain approach”). Prior to the issuance of SAB 108,
and liabilities.
either the rollover or iron-curtain approach was acceptable for assessing
FSP FIN 48-1 In May 2007, the FASB directed the FASB Staff to
the materiality of financial statement misstatements. SAB 108 became
issue FSP No. FIN 48-1, Definition of “Settlement” in FASB Interpretation
effective for our fiscal year ended November 30, 2006. Upon adoption,
No. 48 (“FSP FIN 48-1”). Under FSP FIN 48-1, a previously unrec-
SAB 108 allowed a cumulative-effect adjustment to opening retained
ognized tax benefit may be subsequently recognized if the tax position
earnings at December 1, 2005 for prior-year misstatements that were not
is effectively settled and other specified criteria are met.We are evaluat-
material under a prior approach but that were material under the SAB
ing the effect of adopting FSP FIN 48-1 on our Consolidated Financial
108 approach. Adoption of SAB 108 did not affect our Consolidated
Statements as part of our evaluation of the effect of adopting FIN 48.
Financial Statements.
FSP FIN 46(R)-7 In May 2007, the FASB directed the FASB Staff
SAB 109 In November 2007, the SEC issued SAB No. 109,
to issue FSP No. FIN 46(R)-7, Application of FASB Interpretation No.
Written Loan Commitments Recorded at Fair Value Through Earnings
46(R) to Investment Companies (“FSP FIN 46(R)-7”). FSP FIN 46(R)-7
(“SAB 109”). SAB 109 supersedes SAB No. 105, Loan Commitments
makes permanent the temporary deferral of the application of the provi-
Accounted for as Derivative Instruments (“SAB 105”), and expresses the
sions of FIN 46(R) to unregistered investment companies, and extends
view consistent with the guidance in SFAS 156 and SFAS 159, that the
the scope exception from applying FIN 46(R) to include registered
expected net future cash flows related to the associated servicing of the
investment companies. FSP FIN 46(R)-7 is effective upon adoption of
loan should be included in the measurement of all written loan commit-
SOP 07-1. We are evaluating the effect of adopting FSP FIN 46(R)-7
ments that are accounted for at fair value through earnings. SAB 105 also
on our Consolidated Financial Statements.
expressed the view that internally-developed intangible assets (such as
SAB 108 In September 2006, the Securities and Exchange
customer relationship intangible assets) should not be recorded as part of
Commission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No.
the fair value of a derivative loan commitment. SAB 109 retains that view
108, Considering the Effects of Prior Year Misstatements when Quantifying
and broadens its application to all written loan commitments that are
Misstatements in Current Year Financial Statements (“SAB 108”). SAB 108
accounted for at fair value through earnings. Adoption of SAB 109 did
specifies how the carryover or reversal of prior-year unrecorded financial
not have a material affect on our Consolidated Financial Statements.
statement misstatements should be considered in quantifying a current-
Effect of Adoption The table presented below summarizes the
year misstatement. SAB 108 requires an approach that considers the
impact of adoption from the accounting developments summarized
amount by which the current-year statement of income is misstated
above on our results of operations, if any, actual or estimated:
IN MILLIONS
DATE OF ADOPTION
ACCUMULATED OTHER
COMPREHENSIVE INCOME/(LOSS)
RETAINED EARNINGS
NET INCOME
YEAR ENDED NOVEMBER 30, 2006
SFAS 123(R)
December 1, 2005
$ 47
SFAS 155
December 1, 2005
$ (24)
SFAS 156
December 1, 2005
18
YEAR ENDED NOVEMBER 30, 2007
SFAS 157
December 1, 2006
SFAS 158
November 30, 2007
SFAS 159
December 1, 2006
22
December 1, 2007
(190)
45
$(210)
ESTIMATED IMPACT TO YEAR ENDED NOVEMBER 30, 2008
FIN 48
The ASF Framework On December 6, 2007, the American
streamline borrower evaluation procedures and to facilitate the use of
Securitization Forum (“ASF”), working with various constituency
foreclosure and loss prevention efforts in an attempt to reduce the num-
groups as well as representatives of U.S. federal government agencies,
ber of U.S. subprime residential mortgage borrowers who might default
issued the Streamlined Foreclosure and Loss Avoidance Framework for
in the coming year because the borrowers cannot afford to pay the
Securitized Subprime Adjustable Rate Mortgage Loans (the “ASF
increased loan interest rate after their U.S. subprime residential mortgage
Framework”). The ASF Framework provides guidance for servicers to
variable loan rate resets.The ASF Framework requires a borrower and its
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Discussion and Analysis
U.S. subprime residential mortgage variable loan to meet specific condi-
The Basel Committee on Banking Supervision published an updated
tions to qualify for a modification under which the qualifying borrower’s
framework to calculate risk-based capital requirements in June 2004
loan’s interest rate would be kept at the existing rate, generally for five
(“Basel II”). In September 2006, U.S. federal bank regulators announced
years following an upcoming reset period. The ASF Framework is
their intent to implement Basel II in the U.S. On December 10, 2007,
focused on U.S. subprime first-lien adjustable-rate residential mortgages
the U.S. federal bank regulators published final rules implementing the
that have an initial fixed interest rate period of 36 months or less, are
Basel II framework for the calculation of minimum capital requirements.
included in securitized pools, were originated between January 1, 2005
Within the minimum capital requirements, or “first pillar” of Basel II, the
and July 31, 2007, and have an initial interest rate reset date between
federal rules deal only with the capital risk or banking book component.
January 1, 2008 and July 31, 2010 (defined as “Segment 2 Subprime
U.S. federal bank regulators have indicated that final rules to update
ARM Loans” within the ASF Framework).
market risk or trading book rules will be issued in the near future.
On January 8, 2008, the SEC’s Office of Chief Accountant (the
Basel II is meant to be applied on a consolidated basis for banking
“OCA”) issued a letter (the “OCA Letter”) addressing accounting issues
institutions or bank holding companies that have consolidated total assets
that may be raised by the ASF Framework. Specifically, the OCA Letter
of $250 billion or more and/or consolidated total on-balance-sheet
expressed the view that if a Segment 2 Subprime ARM Loan is modified
foreign exposure of $10 billion or more. Basel II provides two broad
pursuant to the ASF Framework and that loan could legally be modified,
methods for calculating minimum capital requirements related to credit
the OCA will not object to continued status of the transferee as a QSPE
risk (i) a standardized approach that relies heavily upon external credit
under SFAS 140. Concurrent with the issuance of the OCA Letter, the
assessments by major independent credit rating agencies; and (ii) an
OCA requested the FASB to immediately address the issues that have
internal ratings-based approach that permits the use of internal rating
arisen in the application of the QSPE guidance in SFAS 140. Any loan
assessments in determining required capital.
modifications we make in accordance with the ASF Framework will not
The time frame in which Basel II requirements would become
have a material affect on our accounting for U.S. subprime residential
effective for U.S. banking institutions or bank holding companies is
mortgage loans nor securitizations or retained interests in securitizations
contemplated to be (i) one or more years of parallel calculation, in which
of U.S. subprime residential mortgage loans.
an entity would remain subject to existing risk-based capital rules but
Basel II As of December 1, 2005, Holdings became regulated by
also calculate its risk-based capital requirements under the new Basel II
the SEC as a CSE.This supervision imposes group-wide supervision and
framework; and (ii) two or three transition years, during which an entity
examination by the SEC, minimum capital requirements on a consoli-
would be subject to the new framework and an entity’s minimum risk-
dated basis and reporting (including reporting of capital adequacy mea-
based capital would be subject to a floor.
surement consistent with the standards adopted by the Basel Committee
on Banking Supervision) and notification requirements.
The Basel II framework is anticipated to impact our minimum
capital requirements and reporting (including reporting of capital adequacy measurements) as a CSE.
E F F E C T S O F I N F L AT I O N
Because our assets are, to a large extent, liquid in nature, they are
in the prices of services we offer. To the extent inflation results in rising
not significantly affected by inflation. However, the rate of inflation
interest rates and has other adverse effects on the securities markets, it
affects such expenses as employee compensation, office space leasing
may adversely affect our consolidated financial condition and results of
costs and communications charges, which may not be readily recoverable
operations in certain businesses.
73
74
LEHMAN BROTHERS 2007 ANNUAL REPORT
Management’s Assessment of Internal Control Over Financial Reporting
MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING
The management of Lehman Brothers Holdings Inc. (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control system is designed to provide reasonable assurance to the Company’s management and Board of Directors regarding the reliability of financial
reporting and the preparation of published financial statements in accordance with generally accepted accounting
principles. All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those
systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.
The Company’s management assessed the effectiveness of the Company’s internal control over financial reporting
as of November 30, 2007. In making this assessment, it used the criteria set forth by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO) in Internal Control—Integrated Framework. Based on our assessment
we believe that, as of November 30, 2007, the Company’s internal control over financial reporting is effective based
on those criteria.
Lehman Brothers 2007 Annual Report
Report of Independent Registered Public Accounting Firm
Report of Independent Registered Public Accounting Firm
To The Board of Directors and Stockholders of Lehman Brothers Holdings Inc.
We have audited Lehman Brothers Holdings Inc.’s (the “Company”) internal control over financial reporting as of
November 30, 2007, based on criteria established in Internal Control—Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission (the COSO criteria). The Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal
control over financial reporting included in the accompanying Management’s Assessment of Internal Control over Financial
Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on
our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether effective internal control over financial reporting was maintained in all material respects. Our audit included
obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists,
testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding
the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with
generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and
procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary
to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts
and expenditures of the company are being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use,
or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as
of November 30, 2007, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), the consolidated statement of financial condition of the Company as of November 30, 2007 and 2006, and the
related consolidated statements of income, changes in stockholders’ equity, and cash flows for each of the three years in
the period ended November 30, 2007 of the Company and our report dated January 28, 2008 expressed an unqualified
opinion thereon.
New York, New York
January 28, 2008
75
76
Lehman Brothers 2007 Annual Report
Report of Independent Registered Public Accounting Firm
Report of Independent Registered Public Accounting Firm
To The Board of Directors and Stockholders of Lehman Brothers Holdings Inc.
We have audited the accompanying consolidated statement of financial condition of Lehman Brothers Holdings Inc.
(the “Company”) as of November 30, 2007 and 2006, and the related consolidated statements of income, changes in
stockholders’ equity, and cash flows for each of the three years in the period ended November 30, 2007. Our audits also
included the financial statement schedule listed in the Index at Item 15(a). These financial statements and schedule are
the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements
based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated
financial position of Lehman Brothers Holdings Inc. at November 30, 2007 and 2006, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended November 30, 2007, in conformity with U.S.
generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered
in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set
forth therein.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), the effectiveness of Lehman Brothers Holdings Inc.’s internal control over financial reporting as of November 30, 2007,
based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission and our report dated January 28, 2008 expressed an unqualified opinion thereon.
New York, New York
January 28, 2008
LEHMAN BROTHERS 2007 ANNUAL REPORT
Consolidated Financial Statements
CONSOLIDATED STATEMENT OF INCOME
YEAR ENDED NOVEMBER 30,
IN MILLIONS, EXCEPT PER SHARE DATA
2007
2006
2005
$ 9,197
$ 9,802
$ 7,811
3,903
3,160
2,894
REVENUES
Principal transactions
Investment banking
Commissions
Interest and dividends
Asset management and other
Total revenues
2,471
2,050
1,728
41,693
30,284
19,043
1,739
1,413
944
59,003
46,709
32,420
39,746
29,126
17,790
19,257
17,583
14,630
Compensation and benefits
9,494
8,669
7,213
Technology and communications
1,145
974
834
Brokerage, clearance and distribution fees
859
629
548
Occupancy
641
539
490
Professional fees
466
364
282
Business development
378
301
234
Other
261
202
200
Interest expense
Net revenues
NON-INTEREST EXPENSES
Total non-personnel expenses
Total non-interest expenses
3,750
3,009
2,588
13,244
11,678
9,801
Income before taxes and cumulative effect of accounting change
6,013
5,905
4,829
Provision for income taxes
1,821
1,945
1,569
Income before cumulative effect of accounting change
4,192
3,960
3,260
—
47
—
Net income
$ 4,192
$ 4,007
$ 3,260
Net income applicable to common stock
$ 4,125
$ 3,941
$ 3,191
$ 7.63
$ 7.17
$ 5.74
—
0.09
—
$ 7.63
$ 7.26
$ 5.74
$
7.26
$ 6.73
$ 5.43
—
0.08
—
$
7.26
$ 6.81
$ 5.43
$
0.60
$ 0.48
$ 0.40
Cumulative effect of accounting change
Earnings per basic common share:
Before cumulative effect of accounting change
Cumulative effect of accounting change
Earnings per basic common share
Earnings per diluted common share:
Before cumulative effect of accounting change
Cumulative effect of accounting change
Earnings per diluted common share
Dividends paid per common share
See Notes to Consolidated Financial Statements.
77
78
LEHMAN BROTHERS 2007 ANNUAL REPORT
Consolidated Financial Statements
CONSOLIDATED STATEMENT OF FINANCIAL CONDITION
NOVEMBER 30,
IN MILLIONS
2007
2006
$ 7,286
$ 5,987
12,743
6,091
313,129
226,596
Securities purchased under agreements to resell
162,635
117,490
Securities borrowed
138,599
107,666
Brokers, dealers and clearing organizations
11,005
7,449
Customers
29,622
18,470
2,650
2,052
3,861
3,269
5,406
5,113
4,127
3,362
$691,063
$503,545
ASSETS
Cash and cash equivalents
Cash and securities segregated and on deposit for regulatory and other purposes
Financial instruments and other inventory positions owned
(includes $63,499 in 2007 and $42,600 in 2006 pledged as collateral)
Collateralized agreements:
Receivables:
Others
Property, equipment and leasehold improvements
(net of accumulated depreciation and amortization of $2,438 in 2007 and $1,925 in 2006)
Other assets
Identifiable intangible assets and goodwill
(net of accumulated amortization of $340 in 2007 and $293 in 2006)
Total assets
See Notes to Consolidated Financial Statements.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Consolidated Financial Statements
CONSOLIDATED STATEMENT OF FINANCIAL CONDITION
(continued)
NOVEMBER 30,
IN MILLIONS, EXCEPT SHARE DATA
2007
2006
$ 28,066
$ 20,638
149,617
125,960
181,732
133,547
53,307
23,982
22,992
19,028
3,101
2,217
61,206
41,695
16,039
14,697
29,363
21,412
LIABILITIES AND STOCKHOLDERS’ EQUITY
Short-term borrowings and current portion of long-term borrowings
(including $9,035 in 2007 and $6,064 in 2006 at fair value)
Financial instruments and other inventory positions sold but not yet purchased
Collateralized financings:
Securities sold under agreements to repurchase
Securities loaned
Other secured borrowings
(including $9,149 in 2007 and $0 in 2006 at fair value)
Payables:
Brokers, dealers and clearing organizations
Customers
Accrued liabilities and other payables
Deposit liabilities at banks
(including $15,986 in 2007 and $14,708 in 2006 at fair value)
Long-term borrowings
(including $27,204 in 2007 and $11,025 in 2006 at fair value)
Total liabilities
123,150
81,178
668,573
484,354
1,095
1,095
61
61
9,733
8,727
Commitments and contingencies
STOCKHOLDERS’ EQUITY
Preferred stock
Common stock, $0.10 par value:
Shares authorized: 1,200,000,000 in 2007 and 2006;
Shares issued: 612,882,506 in 2007 and 609,832,302 in 2006;
Shares outstanding: 531,887,419 in 2007 and 533,368,195 in 2006
Additional paid-in capital
(1)
Accumulated other comprehensive loss, net of tax
Retained earnings
Other stockholders’ equity, net
Common stock in treasury, at cost
(15)
(310)
19,698
15,857
(2,263)
(1,712)
(1)
(5,524)
(4,822)
Total common stockholders’ equity
21,395
18,096
Total stockholders’ equity
22,490
19,191
$691,063
$503,545
(80,995,087 shares in 2007 and 76,464,107 shares in 2006)
Total liabilities and stockholders’ equity
(1)
Balances and share amounts at November 30, 2006 reflect the April 28, 2006 2-for-1 common stock split, effected in the form of a 100% stock dividend.
See Notes to Consolidated Financial Statements.
79
80
LEHMAN BROTHERS 2007 ANNUAL REPORT
Consolidated Financial Statements
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
YEAR ENDED NOVEMBER 30,
IN MILLIONS
2007
2006
2005
$ 250
$ 250
$ 250
200
200
200
Beginning balance
—
—
250
Redemptions
—
—
(250)
Ending balance
—
—
—
345
345
345
PREFERRED STOCK
5.94% Cumulative, Series C:
Beginning and ending balance
5.67% Cumulative, Series D:
Beginning and ending balance
7.115% Fixed/Adjustable Rate Cumulative, Series E:
6.50% Cumulative, Series F:
Beginning and ending balance
Floating Rate (3% Minimum) Cumulative, Series G:
Beginning and ending balance
Total preferred stock, ending balance
300
300
300
1,095
1,095
1,095
61
61
61
8,727
6,283
5,834
—
COMMON STOCK, PAR VALUE $0.10 PER SHARE
Beginning and ending balance
ADDITIONAL PAID-IN CAPITAL
Beginning balance
Reclass from Common Stock Issuable and Deferred
Stock Compensation under SFAS No. 123(R)
2,275
—
RSUs exchanged for Common Stock
(580)
(647)
184
Employee stock-based awards
(832)
(881)
(760)
434
836
1,005
1,898
804
—
86
57
20
9,733
8,727
6,283
(19)
Tax benefit from the issuance of stock-based awards
Amortization of RSUs, net
Other, net
Ending balance
ACCUMULATED OTHER COMPREHENSIVE INCOME/(LOSS), NET OF TAX
Beginning balance
(15)
(16)
Translation adjustment, net (1)
(85)
1
3
Adoption of SFAS No. 158 (2)
(210)
—
—
Ending balance
(1)
Net of income tax benefit/(expense) of $2 in 2007, ($2) in 2006 and ($1) in 2005.
(2)
Net of income tax benefit of $134.
See Notes to Consolidated Financial Statements.
$ (310)
$
(15)
$
(16)
LEHMAN BROTHERS 2007 ANNUAL REPORT
Consolidated Financial Statements
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
(continued)
YEAR ENDED NOVEMBER 30,
IN MILLIONS
2007
2006
2005
$15,857
$12,198
$ 9,240
67
(6)
—
4,192
4,007
3,260
RETAINED EARNINGS
Beginning balance
Cumulative effect of accounting changes (1)
Net income
Dividends declared:
5.94% Cumulative, Series C Preferred Stock
(15)
(15)
(15)
5.67% Cumulative, Series D Preferred Stock
(11)
(11)
(11)
7.115% Fixed/Adjustable Rate Cumulative, Series E Preferred Stock
6.50% Cumulative, Series F Preferred Stock
Floating Rate (3% Minimum) Cumulative, Series G Preferred Stock
Common Stock
Ending balance
—
—
(9)
(22)
(22)
(22)
(19)
(18)
(12)
(351)
(276)
(233)
15,857
12,198
3,874
19,698
COMMON STOCK ISSUABLE
Beginning balance
—
4,548
Reclass to Additional paid-in capital under SFAS 123(R)
—
(4,548)
—
RSUs exchanged for common stock
—
—
(832)
Deferred stock awards granted
—
—
1,574
Other, net
—
—
(68)
Ending balance
—
—
4,548
COMMON STOCK HELD IN RSU TRUST
Beginning balance
(1,712)
(1,510)
(1,353)
Employee stock-based awards
(1,039)
(755)
(676)
587
549
RSUs exchanged for common stock
Other, net
Ending balance
534
(46)
(34)
(30)
(2,263)
(1,712)
(1,510)
(1,780)
DEFERRED STOCK COMPENSATION
Beginning balance
—
(2,273)
Reclass to additional paid-in capital under SFAS 123(R)
—
2,273
—
Deferred stock awards granted
—
—
(1,574)
Amortization of RSUs, net
—
—
988
Other, net
—
—
93
Ending balance
—
—
(2,273)
COMMON STOCK IN TREASURY, AT COST
Beginning balance
(4,822)
(3,592)
(2,282)
Repurchases of common stock
(2,605)
(2,678)
(2,994)
(573)
(1,003)
(1,163)
Shares reacquired from employee transactions
RSUs exchanged for common stock
Employee stock-based awards
Ending balance
Total stockholders’ equity
(1)
46
60
99
2,430
2,391
2,748
(5,524)
(4,822)
(3,592)
$19,191
$16,794
$22,490
The aggregate adoption impact of SFAS No. 157 and SFAS No. 159 are reflected for the year ended November 30, 2007. The aggregate adoption impact of SFAS
No. 155 and SFAS No. 156 are reflected for the year ended November 30, 2006.
See Notes to Consolidated Financial Statements.
81
82
LEHMAN BROTHERS 2007 ANNUAL REPORT
Consolidated Financial Statements
CONSOLIDATED STATEMENT OF CASH FLOWS
YEAR ENDED NOVEMBER 30,
IN MILLIONS
2007
2006
2005
$ 4,192
$ 4,007
$ 3,260
CASH FLOWS FROM OPERATING ACTIVITIES
Net income
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation and amortization
Non-cash compensation
Cumulative effect of accounting change
Deferred tax provision/(benefit)
Tax benefit from the issuance of stock-based awards
Other adjustments
Net change in:
Cash and securities segregated and on deposit for regulatory and other purposes
Financial instruments and other inventory positions owned
Resale agreements, net of repurchase agreements
Securities borrowed, net of securities loaned
Other secured borrowings
Receivables from brokers, dealers and clearing organizations
Receivables from customers
Financial instruments and other inventory positions sold but not yet purchased
Payables to brokers, dealers and clearing organizations
Payables to customers
Accrued liabilities and other payables
Other receivables and assets and minority interests
Net cash used in operating activities
577
1,791
—
418
—
(114)
514
1,706
(47)
(60)
—
3
426
1,055
—
(502)
1,005
173
(6,652)
(78,903)
3,039
(1,608)
3,964
(3,556)
(11,152)
23,415
884
19,511
302
(1,703)
(45,595)
(347)
(46,102)
6,111
(18,383)
(4,088)
5
(5,583)
15,224
347
9,552
2,032
(1,267)
(36,376)
(1,659)
(36,652)
(475)
(5,165)
11,495
(4,054)
354
14,156
165
4,669
(801)
345
(12,205)
(966)
(965)
233
(1,698)
(586)
(206)
—
(792)
(409)
(38)
—
(447)
242
434
3,381
7,068
86,302
(46,255)
84
359
(2,605)
—
(418)
48,592
1,299
5,987
$ 7,286
159
836
4,819
6,345
48,115
(19,636)
119
518
(2,678)
—
(342)
38,255
1,087
4,900
$ 5,987
140
—
84
4,717
23,705
(14,233)
230
1,015
(2,994)
(250)
(302)
12,112
(540)
5,440
$ 4,900
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property, equipment and leasehold improvements, net
Business acquisitions, net of cash acquired
Proceeds from sale of business
Net cash used in investing activities
CASH FLOWS FROM FINANCING ACTIVITIES
Derivative contracts with a financing element
Tax benefit from the issuance of stock-based awards
Issuance of short-term borrowings, net
Deposit liabilities at banks
Issuance of long-term borrowings
Principal payments of long-term borrowings, including the current portion of long term borrowings
Issuance of common stock
Issuance of treasury stock
Purchase of treasury stock
Retirement of preferred stock
Dividends paid
Net cash provided by financing activities
Net change in cash and cash equivalents
Cash and cash equivalents, beginning of period
Cash and cash equivalents, end of period
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION (IN MILLIONS):
Interest paid totaled $39,454, $28,684 and $17,893 in 2007, 2006 and 2005, respectively.
Income taxes paid totaled $1,476, $1,037 and $789 in 2007, 2006 and 2005, respectively.
See Notes to Consolidated Financial Statements.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
N O T E S T O C O N S O L I D AT E D
F I N A N C I A L S TAT E M E N T S
Note 1
Summary of Significant
Accounting Policies
84
Business Segments and
Geographic Information
92
Financial Instruments and
Other Inventory Positions
94
Note 4
Fair Value of Financial Instruments
97
Note 5
Securities Received and
Pledged as Collateral
101
Securitizations and Special
Purpose Entities
101
Identifiable Intangible Assets
and Goodwill
104
Note 8
Borrowings and Deposit Liabilities
105
Note 9
Commitments, Contingencies
and Guarantees
108
Note 10
Stockholders’ Equity
111
Note 11
Earnings per Common Share
112
Note 12
Share-Based Employee
Incentive Plans
113
Note 13
Employee Benefit Plans
116
Note 14
Income Taxes
119
Note 15
Regulatory Requirements
121
Note 16
Quarterly Information (unaudited)
122
Note 2
Note 3
Note 6
Note 7
83
84
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
N OT E S TO C O N S O L I DAT E D F I N A N C I A L S TAT E M E N T S
N O T E 1 S U M M A RY O F S I G N I F I C A N T A C C O U N T I N G P O L I C I E S
DESCRIPTION OF BUSINESS
Lehman Brothers Holdings Inc. (“Holdings”) and subsidiaries (col-
amounts and disclosures. Broadly, those estimates are used in:
■
measuring fair value of certain financial instruments;
lectively, the “Company,” the “Firm,” “Lehman Brothers,” “we,” “us” or
■
accounting for identifiable intangible assets and goodwill;
“our”) serves the financial needs of corporations, governments and
■
establishing provisions for potential losses that may arise from
litigation, regulatory proceedings and tax examinations;
municipalities, institutional clients and high net worth individuals worldwide with business activities organized in three segments, Capital
■
assessing our ability to realize deferred taxes; and
Markets, Investment Banking and Investment Management. Founded in
■
valuing equity-based compensation awards.
1850, Lehman Brothers maintains market presence in equity and fixed
Estimates are based on available information and judgment.
income sales, trading and research, investment banking, asset manage-
Therefore, actual results could differ from our estimates and that differ-
ment, private investment management and private equity. The Firm is
ence could have a material effect on our Consolidated Financial
headquartered in New York, with regional headquarters in London and
Statements and notes thereto.
Tokyo, and operates in a network of offices in North America, Europe,
the Middle East, Latin America and the Asia-Pacific region. We are a
CONSOLIDATION POLICIES
The Consolidated Financial Statements include the accounts of
member of all principal securities and commodities exchanges in the
Holdings and the entities in which the Company has a controlling finan-
U.S., and we hold memberships or associate memberships on several
cial interest.We determine whether we have a controlling financial inter-
principal international securities and commodities exchanges, including
est in an entity by first determining whether the entity is a voting
the London, Tokyo, Hong Kong, Frankfurt, Paris, Milan and Australian
interest entity (sometimes referred to as a non-VIE), a variable interest
stock exchanges.
entity (“VIE”) or a qualified special purpose entity (“QSPE”).
Voting Interest Entity
Voting interest entities are entities that have
BASIS OF PRESENTATION
The Consolidated Financial Statements are prepared in confor-
(i) total equity investment at risk sufficient to fund expected future
mity with U.S. generally accepted accounting principles and include
operations independently; and (ii) equity holders who have the obliga-
the accounts of Holdings, our subsidiaries, and all other entities in
tion to absorb losses or receive residual returns and the right to make
which we have a controlling financial interest or are considered to be
decisions about the entity’s activities. In accordance with Accounting
the primary beneficiary. All material inter-company accounts and
Research Bulletin (“ARB”) No. 51, Consolidated Financial Statements, and
transactions have been eliminated upon consolidation. Certain prior-
Statement of Financial Accounting Standards (“SFAS”) No. 94,
period amounts reflect reclassifications to conform to the current
Consolidation of All Majority-Owned Subsidiaries, voting interest entities are
year’s presentation.
consolidated when the Company has a controlling financial interest,
On April 5, 2006, the stockholders of Holdings approved an
typically more than 50 percent of an entity’s voting interests.
increase of its authorized shares of common stock to 1.2 billion from
Variable Interest Entity VIEs are entities that lack one or more
600 million, and the Board of Directors approved a 2-for-1 common
voting interest entity characteristics. The Company consolidates VIEs in
stock split, in the form of a stock dividend, that was effected on April 28,
which it is the primary beneficiary. In accordance with Financial
2006. All share and per share amounts have been retrospectively adjusted
Accounting Standards Board (“FASB”) Interpretation (“FIN”) No. 46-R,
for the increase in authorized shares and the stock split. For additional
Consolidation of Variable Interest Entities (revised December 2003)—an interpre-
information about the stock split, see Note 11, “Earnings per Common
tation of ARB No. 51 (“FIN 46(R)”), we are the primary beneficiary if we
Share,” and Note 12, “Share-Based Employee Incentive Plans,” to the
have a variable interest, or a combination of variable interests, that will
Consolidated Financial Statements.
either (i) absorb a majority of the VIEs expected losses; (ii) receive a
USE OF ESTIMATES
In preparing our Consolidated Financial Statements and accompa-
majority of the VIEs expected residual returns; or (iii) both.To determine
nying notes, management makes various estimates that affect reported
the VIE’s design, capital structure, contractual terms, which interests create
if we are the primary beneficiary of a VIE, we review, among other factors,
or absorb variability and related party relationships, if any. Additionally, we
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
may calculate our share of the VIE’s expected losses and expected residual
■
returns based upon the VIE’s contractual arrangements and/or our posi-
equity investors and other interests become exposed to expected
tion in the VIE’s capital structure. This type of analysis is typically performed using expected cash flows allocated to the expected losses and
The equity investment (or some part thereof) is returned to the
returns or losses.
■
Additional activities are undertaken or assets acquired by the
entity that were beyond those anticipated previously.
expected residual returns under various probability-weighted scenarios.
Qualified Special Purpose Entity QSPEs are passive entities with
■
Participants in the entity acquire or sell interests in the entity.
limited permitted activities. SFAS No. 140, Accounting for Transfers and
■
The entity receives additional equity at risk or curtails its activi-
Servicing of Financial Assets and Extinguishments of Liabilities—a replacement
ties in a way that changes the expected returns or losses.
of FASB Statement No. 125 (“SFAS 140”), establishes the criteria an
entity must satisfy to be a QSPE, including types of assets held, limits on
CURRENCY TRANSLATION
Assets and liabilities of subsidiaries having non–U.S. dollar functional
asset sales, use of derivatives and financial guarantees, and discretion
currencies are translated at exchange rates at the applicable Consolidated
exercised in servicing activities. In accordance with SFAS 140 and FIN
Statement of Financial Condition date. Revenues and expenses are trans-
46(R), we do not consolidate QSPEs.
lated at average exchange rates during the period. The gains or losses
For a further discussion of our involvement with VIEs, QSPEs and
resulting from translating non-U.S. dollar functional currency into U.S.
other entities see Note 6, “Securitizations and Special Purpose Entities,”
dollars, net of hedging gains or losses, are included in Accumulated other
to the Consolidated Financial Statements.
comprehensive income/(loss), net of tax, a component of Stockholders’
Equity-Method Investments Entities in which we do not have a
controlling financial interest (and therefore do not consolidate) but in
which we exert significant influence (generally defined as owning a vot-
equity. Gains or losses resulting from non-U.S. dollar currency transactions are included in the Consolidated Statement of Income.
ing interest of 20 percent to 50 percent, or a partnership interest greater
REVENUE RECOGNITION POLICIES
Principal transactions Realized and unrealized gains or losses from
than 3 percent) are accounted for either under Accounting Principles
Financial instruments and other inventory positions owned and Financial
Board (“APB”) Opinion No. 18, The Equity Method of Accounting for
instruments and other inventory positions sold but not yet purchased, as
Investments in Common Stock or SFAS No. 159, The Fair Value Option for
well as the gains or losses from certain short- and long-term borrowing
Financial Assets and Financial Liabilities (“SFAS 159”). For further discus-
obligations, principally certain hybrid financial instruments, and certain
sion of our adoption of SFAS 159, see “Accounting and Regulatory
deposit liabilities at banks that we measure at fair value are reflected in
Developments—SFAS 159” below.
Principal transactions in the Consolidated Statement of Income.
Other When we do not consolidate an entity or apply the equity
Investment banking Underwriting revenues, net of related under-
method of accounting, we present our investment in the entity at fair
writing expenses, and revenues for merger and acquisition advisory and
value. We have formed various non-consolidated private equity or other
other investment banking-related services are recognized when services
alternative investment funds with third-party investors that are typically
for the transactions are completed. In instances where our Investment
organized as limited partnerships. We typically act as general partner for
Banking segment provides structuring services and/or advice in a capital
these funds, and when third-party investors have (i) rights to either
markets-related transaction, we record a portion of the transaction-
remove the general partner without cause or to liquidate the partnership;
related revenue as Investment Banking fee revenues.
or (ii) substantive participation rights, we do not consolidate these part-
Commissions Commissions primarily include fees from execut-
nerships in accordance with Emerging Issue Task Force (“EITF”) No.
ing and clearing client transactions on equities, options and futures
04-5, Determining Whether a General Partner, or the General Partners as a
markets worldwide. These fees are recognized on a trade-date basis.
Group, Controls a Limited Partnership or Similar Entity When the Limited
Partners Have Certain Rights (“EITF 04-5”).
Interest and dividends revenue and interest expense
We recog-
nize contractual interest on Financial instruments and other inventory
A determination of whether we have a controlling financial interest
positions owned and Financial instruments and other inventory positions
in an entity and therefore our assessment of consolidation of that entity
sold but not yet purchased, excluding derivatives, on an accrual basis as
is initially made at the time we become involved with the entity. Certain
a component of Interest and dividends revenue and Interest expense,
events may occur which cause us to re-assess our initial determination
respectively. We account for our secured financing activities and certain
of whether an entity is a VIE or non-VIE or whether we are the primary
short- and long-term borrowings on an accrual basis with related inter-
beneficiary if the entity is a VIE and therefore our assessment of con-
est recorded as interest revenue or interest expense, as applicable.
solidation of that entity. Those events generally are:
Contractual interest expense on all deposit liabilities and certain hybrid
■
The entity’s governance structure is changed such that either
financial instruments are recorded as a component of Interest expense.
(i) the characteristics or adequacy of equity at risk are changed,
Asset management and other Investment advisory fees are
or (ii) expected returns or losses are reallocated among the
recorded as earned. In certain circumstances, we receive asset manage-
participating parties within the entity.
ment incentive fees when the return on assets under management
85
86
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
exceeds specified benchmarks. Incentive fees are generally based on
awards granted subsequent to December 1, 2005, based on the grant-
investment performance over a twelve-month period and are not subject
date fair value and related service periods estimated in accordance with
to adjustment after the measurement period ends. Accordingly, we rec-
the provisions of SFAS 123(R). Under the provisions of the modified-
ognize incentive fees when the measurement period ends.
prospective transition method, results for fiscal 2005 were not restated.
We also receive private equity incentive fees when the returns on
SFAS 123(R) clarifies and expands the guidance in SFAS 123 in
certain private equity or other alternative investment funds’ invest-
several areas, including how to measure fair value and how to attribute
ments exceed specified thresholds. Private equity incentive fees typi-
compensation cost to reporting periods. Changes to the SFAS 123 fair
cally are based on investment results over a period greater than one
value measurement and service period provisions prescribed by SFAS
year, and future investment underperformance could require amounts
123(R) include requirements to: (i) estimate forfeitures of share-based
previously distributed to us to be returned to the funds. Accordingly,
awards at the date of grant, rather than recognizing forfeitures as
we recognize these incentive fees when all material contingencies have
incurred as was permitted by SFAS 123; (ii) expense share-based awards
been substantially resolved.
granted to retirement-eligible employees and those employees with
INCOME TAXES
We account for income taxes in accordance with SFAS No. 109,
non-substantive non-compete agreements immediately, while our
Accounting for Income Taxes. We recognize the current and deferred tax
the stated service periods; (iii) attribute compensation costs of share-
consequences of all transactions that have been recognized in the finan-
based awards to the future vesting periods, while our accounting practice
cial statements using the provisions of the enacted tax laws. Deferred tax
under SFAS 123 included a partial attribution of compensation costs of
assets are recognized for temporary differences that will result in deduct-
share-based awards to services performed during the year of grant; and
ible amounts in future years and for tax loss carry-forwards. We record a
(iv) recognize compensation costs of all share-based awards (including
valuation allowance to reduce deferred tax assets to an amount that more
amortizing pre-fiscal-2004 options) based on the grant-date fair value,
likely than not will be realized. Deferred tax liabilities are recognized for
rather than our accounting methodology under SFAS 123 which rec-
temporary differences that will result in taxable income in future years.
ognized pre-fiscal-2004 option awards based on their intrinsic value.
accounting practice under SFAS 123 was to recognize such costs over
Contingent liabilities related to income taxes are recorded when prob-
Prior to adopting SFAS 123(R) we presented the cash flows related
able and reasonably estimable in accordance with SFAS No. 5, Accounting
to income tax deductions in excess of the compensation cost recognized
for Contingencies.
on stock issued under RSUs and stock options exercised during the
For a discussion of the impact of FIN 48, Accounting for Uncertainty
period (“excess tax benefits”) as operating cash flows in the Consolidated
in Income Taxes—an Interpretation of FASB Statement No. 109 (“FIN 48”),
Statement of Cash Flows. SFAS 123(R) requires excess tax benefits to be
see “Accounting and Regulatory Developments—FIN 48” below.
classified as financing cash flows. In addition, as a result of adopting SFAS
SHARE-BASED COMPENSATION
On December 1, 2003, we adopted the fair value recognition pro-
123(R), certain balance sheet amounts associated with share-based compensation costs have been reclassified within the equity section of the
visions of SFAS No. 123, Accounting for Stock-Based Compensation (“SFAS
balance sheet. This change in presentation had no effect on our total
123”), using the prospective adoption method. Under this method of
equity. Effective December 1, 2005, Deferred stock compensation (rep-
adoption, compensation expense was recognized over the related service
resenting unearned costs of RSU awards) and Common stock issuable
periods based on the fair value of stock options and restricted stock units
are presented on a net basis as a component of Additional paid-in capital.
(“RSUs”) granted for fiscal 2004 and fiscal 2005. Under SFAS 123, stock
See “Accounting and Regulatory Developments—SFAS 123(R)” below
options granted in periods prior to fiscal 2004 continued to be
for a further discussion of SFAS 123(R) and the cumulative effect of this
accounted for under the intrinsic value method prescribed by APB No.
accounting change recognized in fiscal 2006.
25, Accounting for Stock Issued to Employees. Accordingly, under SFAS 123
no compensation expense was recognized for stock option awards
EARNINGS PER SHARE
We compute earnings per share (“EPS”) in accordance with SFAS
granted prior to fiscal 2004 because the exercise price equaled or
No. 128, Earnings per Share. Basic EPS is computed by dividing net
exceeded the market value of our common stock on the grant date.
income applicable to common stock by the weighted-average number
On December 1, 2005, we adopted SFAS No. 123 (revised 2004),
of common shares outstanding, which includes RSUs for which service
Share-Based Payment (“SFAS 123(R)”) using the modified-prospective
has been provided. Diluted EPS includes the components of basic EPS
transition method. Under this transition method, compensation cost
and also includes the dilutive effects of RSUs for which service has not
recognized during fiscal 2006 includes: (i) compensation cost for all
yet been provided and employee stock options.
1, 2005, (including pre-fiscal-2004 options) based on the grant-date fair
FINANCIAL INSTRUMENTS AND OTHER INVENTORY POSITIONS
Financial instruments and other inventory positions owned,
value and related service period estimates in accordance with the origi-
excluding real estate held for sale, and Financial instruments and other
nal provisions of SFAS 123; and (ii) compensation cost for all share-based
inventory positions sold but not yet purchased are carried at fair value.
share-based awards granted prior to, but not yet vested as of, December
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
Real estate held for sale is accounted for at the lower of its carrying
collateral received or paid on a counterparty basis, provided legal right
amount or fair value less cost to sell. For further discussion of our finan-
of offset exists.
cial instruments and other inventory positions, see Note 3, “Financial
We enter into derivative transactions both in a trading capacity and
Instruments and Other Inventory Positions,” to the Consolidated
as an end-user. Acting in a trading capacity, we enter into derivative trans-
Financial Statements.
actions to satisfy the needs of our clients and to manage our own exposure
Firm-owned securities pledged to counterparties who have the
to market and credit risks resulting from our trading activities (collectively,
right, by contract or custom, to sell or repledge the securities are classi-
“Trading-Related Derivatives”). For Trading-Related Derivatives, mar-
fied as Financial instruments and other inventory positions owned and
gins on futures contracts are included in receivables and payables from/to
are disclosed as pledged as collateral. For further discussion of our securi-
brokers, dealers and clearing organizations, as applicable.
ties received and pledged as collateral, see Note 5, “Securities Received
and Pledged as Collateral,” to the Consolidated Financial Statements.
As an end-user, we primarily use derivatives to hedge our exposure
to market risk (including foreign currency exchange and interest rate
We adopted SFAS No. 157, Fair Value Measurements (“SFAS 157”)
risks) and credit risks (collectively, “End-User Derivatives”). When End-
effective December 1, 2006. SFAS 157 defines fair value as the price that
User Derivatives are interest rate swaps they are measured at fair value
would be received to sell an asset or paid to transfer a liability in an
through earnings and the carrying value of the related hedged item is
orderly transaction between market participants at the measurement
adjusted through earnings for the effect of changes in the risk being
date. When observable prices are not available, we either use implied
hedged. The hedge ineffectiveness in these relationships is recorded in
pricing from similar instruments or valuation models based on net pres-
Interest expense in the Consolidated Statement of Income. When End-
ent value of estimated future cash flows, adjusted as appropriate for
User Derivatives are used in hedges of net investments in non-U.S. dol-
liquidity, credit, market and/or other risk factors.
lar functional currency subsidiaries, the gains or losses are reported
Prior to December 1, 2006, we followed the American Institute of
Certified Public Accountants (“AICPA”) Audit and Accounting Guide,
within Accumulated other comprehensive income/(loss), net of tax, in
Stockholders’ equity.
Brokers and Dealers in Securities, when determining fair value for financial
Prior to December 1, 2006, we followed EITF Issue No. 02-3,
instruments, which permitted the recognition of a discount to the
Issues Involved in Accounting for Derivative Contracts Held for Trading
quoted price when determining the fair value for a substantial block of
Purposes and Contracts Involved in Energy Trading and Risk Management
a particular security, when the quoted price was not considered to be
Activities (“EITF 02-3”). Under EITF 02-3, recognition of a trading
readily realizable (i.e., a block discount).
profit at inception of a derivative transaction was prohibited unless the
For further discussion of our adoption of SFAS 157, see
“Accounting and Regulatory Developments—SFAS 157” below.
Derivative financial instruments
fair value of that derivative was obtained from a quoted market price
supported by comparison to other observable inputs or based on a
Derivatives are financial instru-
valuation technique incorporating observable inputs. Subsequent to
ments whose value is based on an underlying asset (e.g., Treasury bond),
the inception date (“Day 1”), we recognized trading profits deferred at
index (e.g., S&P 500) or reference rate (e.g., LIBOR), and include futures,
Day 1 in the period in which the valuation of the instrument became
forwards, swaps, option contracts, or other financial instruments with
observable. The adoption of SFAS 157 nullified the guidance in EITF
similar characteristics. A derivative contract generally represents a future
02-3 that precluded the recognition of a trading profit at the inception
commitment to exchange interest payment streams or currencies based
of a derivative contract, unless the fair value of such derivative was
on the contract or notional amount or to purchase or sell other financial
obtained from a quoted market price or other valuation technique
instruments or physical assets at specified terms on a specified date.
incorporating observable inputs. For further discussion of our adoption
Over-the-counter (“OTC”) derivative products are privately-negotiated
of SFAS 157, see “Accounting and Regulatory Developments—SFAS
contractual agreements that can be tailored to meet individual client
157” below.
needs and include forwards, swaps and certain options including caps,
Securitization activities In accordance with SFAS 140, we recog-
collars and floors. Exchange-traded derivative products are standardized
nize transfers of financial assets as sales, if control has been surrendered.
contracts transacted through regulated exchanges and include futures
We determine control has been surrendered when the following three
and certain option contracts listed on an exchange.
criteria have been met:
Derivatives are recorded at fair value and included in either
■
The transferred assets have been isolated from the transferor – put
Financial instruments and other inventory positions owned or
presumptively beyond the reach of the transferor and its creditors,
Financial instruments and other inventory positions sold but not yet
even in bankruptcy or other receivership (i.e., a true sale opinion
purchased in the Consolidated Statement of Financial Condition.
has been obtained);
Derivatives are presented net-by-counterparty when a legal right of
■
Each transferee (or, if the transferee is a QSPE, each holder of its
offset exists; net across different products or positions when applicable
beneficial interests) has the right to pledge or exchange the assets
provisions are stated in a master netting agreement; and/or net of cash
(or beneficial interests) it received, and no condition both con-
87
88
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
■
strains the transferee (or holder) from taking advantage of its right
subsequently amortized over the estimated useful life of the software,
to pledge or exchange and provides more than a trivial benefit to
generally three years, with a maximum of seven years. We review long-
the transferor; and
lived assets for impairment periodically and whenever events or changes
The transferor does not maintain effective control over the trans-
in circumstances indicate the carrying amounts of the assets may be
ferred assets through either (i) an agreement that both entitles
impaired. If the expected future undiscounted cash flows are less than the
and obligates the transferor to repurchase or redeem them before
carrying amount of the asset, an impairment loss is recognized to the
their maturity or (ii) the ability to unilaterally cause the holder to
extent the carrying value of the asset exceeds its fair value.
return specific assets.
COLLATERALIZED LENDING AGREEMENTS AND FINANCINGS
Treated as collateralized agreements and financings for financial
reporting purposes are the following:
■
gible assets with indefinite lives and goodwill are not amortized. Instead,
these assets are evaluated at least annually for impairment. Goodwill is
agreements to resell and securities sold under agreements to
reduced upon the recognition of certain acquired net operating loss car-
repurchase are collateralized primarily by government and
ryforward benefits.
party, when permitted, at the amounts at which the securities
subsequently will be resold or repurchased plus accrued interest.
We take possession of securities purchased under agreements to
CASH EQUIVALENTS
Cash equivalents include highly liquid investments not held for
resale with maturities of three months or less when we acquire them.
resell. The fair value of the underlying positions is compared daily
ACCOUNTING AND REGULATORY DEVELOPMENTS
The following summarizes accounting standards that have been
with the related receivable or payable balances, including accrued
issued during the periods covered by the Consolidated Financial
interest. We require counterparties to deposit additional collateral
Statements and the effect of adoption on our results of operations, if any,
or return collateral pledged, as necessary, to ensure the fair value
actual or estimated.
of the underlying collateral remains sufficient.
■
their expected useful lives, which range up to 15 years. Identifiable intan-
Repurchase and resale agreements Securities purchased under
government agency securities and are carried net by counter-
■
IDENTIFIABLE INTANGIBLE ASSETS AND GOODWILL
Identifiable intangible assets with finite lives are amortized over
SFAS 123(R) In December 2004, the FASB issued SFAS 123(R)
Securities borrowed and securities loaned Securities borrowed and
which established standards of accounting for transactions in which an
securities loaned are carried at the amount of cash collateral
entity exchanges its equity instruments for goods and services and
advanced or received plus accrued interest. We value the securi-
focuses primarily on accounting for transactions in which an entity
ties borrowed and loaned daily and obtain additional cash as nec-
obtains employee services in share-based payment transactions. Two key
essary to ensure these transactions are adequately collateralized.
differences between SFAS 123 and SFAS 123(R) relate to attribution of
When we act as the lender of securities in a securities-lending
compensation costs to reporting periods and accounting for award for-
agreement and we receive securities that can be pledged or sold
feitures. SFAS 123(R) generally requires the immediate expensing of
as collateral, we recognize an asset, representing the securities
equity-based awards granted to retirement-eligible employees or awards
received and a liability, representing the obligation to return
granted subject to substantive non-compete agreements to be expensed
those securities.
over the non-compete period. SFAS 123(R) also requires expected for-
Other secured borrowings Other secured borrowings principally
feitures to be included in determining stock-based employee compensa-
reflect transfers accounted for as financings rather than sales under
tion expense. We adopted SFAS 123(R) as of the beginning of our 2006
SFAS 140. Additionally, Other secured borrowings includes non-
fiscal year and recognized an after-tax gain of approximately $47 million
recourse financings of entities that we have consolidated because
as the cumulative effect of a change in accounting principle attributable
we are the primary beneficiaries of such entities.
to the requirement to estimate forfeitures at the date of grant instead of
LONG-LIVED ASSETS
Property, equipment and leasehold improvements are recorded at
recognizing them as incurred. For additional information, see “Share-
historical cost, net of accumulated depreciation and amortization.
Based Compensation” above and Note 12, “Share-Based Employee
Incentive Plans,” to the Consolidated Financial Statements.
Depreciation is recognized using the straight-line method over the esti-
SFAS 155 In February 2006, the FASB issued SFAS No. 155,
mated useful lives of the assets. Buildings are depreciated up to a maxi-
Accounting for Certain Hybrid Financial Instruments—an amendment of FASB
mum of 40 years. Leasehold improvements are amortized over the lesser
Statements No. 133 and 140 (“SFAS 155”), which permits an entity to
of their useful lives or the terms of the underlying leases, which range up
measure at fair value any hybrid financial instrument that contains an
to 30 years. Equipment, furniture and fixtures are depreciated over peri-
embedded derivative that otherwise would require bifurcation. As per-
ods of up to 10 years. Internal-use software that qualifies for capitaliza-
mitted, we early adopted SFAS 155 in the first quarter of 2006. The
tion under AICPA Statement of Position 98-1, Accounting for the Costs of
effect of adoption resulted in a $24 million after-tax ($43 million pre-
Computer Software Developed or Obtained for Internal Use, is capitalized and
tax) decrease to opening retained earnings as of the beginning of our
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
2006 fiscal year, representing the difference between the fair value of
Stockholders’ equity. In accordance with the guidance in SFAS No. 158,
these hybrid financial instruments and the prior carrying value as of
we adopted this provision of the standard for the year ended November
November 30, 2005.
30, 2007. The adoption of SFAS No. 158 reduced Accumulated
SFAS 156 In March 2006, the FASB issued SFAS No. 156,
Accounting for Servicing of Financial Assets—an amendment of FASB
other comprehensive income/ (loss), by $210 million after-tax ($344
million pre-tax) at November 30, 2007.
Statement No. 140 (“SFAS 156”), which permits entities to elect to mea-
SFAS 159 In February 2007, the FASB issued SFAS 159 which
sure servicing assets and servicing liabilities at fair value and report
permits certain financial assets and financial liabilities to be measured at
changes in fair value in earnings. As a result of adopting SFAS 156, we
fair value, using an instrument-by-instrument election. The initial effect
recognized an $18 million after-tax ($33 million pre-tax) increase to
of adopting SFAS 159 must be accounted for as a cumulative-effect
opening retained earnings in our 2006 fiscal year.
adjustment to opening retained earnings for the fiscal year in which we
SFAS 157 In September 2006, the FASB issued SFAS 157. SFAS
157 defines fair value, establishes a framework for measuring fair value,
apply SFAS 159. Retrospective application of SFAS 159 to fiscal years
preceding the effective date is not permitted.
outlines a fair value hierarchy based on inputs used to measure fair value
We elected to early adopt SFAS 159 beginning in our 2007 fiscal
and enhances disclosure requirements for fair value measurements. SFAS
year and to measure at fair value substantially all hybrid financial instru-
157 does not change existing guidance as to whether or not an instru-
ments not previously accounted for at fair value under SFAS No. 155, as
ment is carried at fair value.
well as certain deposit liabilities at our U.S. banking subsidiaries. We
SFAS 157 also (i) nullifies the guidance in EITF 02-3 that precluded
elected to adopt SFAS 159 for these instruments to reduce the complex-
the recognition of a trading profit at the inception of a derivative contract,
ity of accounting for these instruments under SFAS No. 133, Accounting
unless the fair value of such derivative was obtained from a quoted market
for Derivative Instruments and Hedging Activities. As a result of adopting
price or other valuation technique incorporating observable inputs; (ii)
SFAS 159, we recognized a $22 million after-tax increase ($35 million
clarifies that an issuer’s credit standing should be considered when mea-
pre-tax) to opening retained earnings as of December 1, 2006, represent-
suring liabilities at fair value; (iii) precludes the use of a liquidity or block
ing the effect of changing the measurement basis of these financial
discount when measuring instruments traded in an active market at fair
instruments from an adjusted amortized cost basis at November 30, 2006
value; and (iv) requires costs related to acquiring financial instruments
to fair value.
carried at fair value to be included in earnings as incurred.
SFAS 141(R) In December 2007, the FASB issued SFAS No.
We elected to early adopt SFAS 157 at the beginning of our 2007
141(R), Business Combinations (“SFAS 141(R)”). SFAS 141(R) expands
fiscal year and we recorded the difference between the carrying amounts
the definition of transactions and events that qualify as business combi-
and fair values of (i) stand-alone derivatives and/or certain hybrid finan-
nations; requires that the acquired assets and liabilities, including contin-
cial instruments measured using the guidance in EITF 02-3 on recogni-
gencies, be recorded at the fair value determined on the acquisition date
tion of a trading profit at the inception of a derivative, and (ii) financial
and changes thereafter reflected in revenue, not goodwill; changes the
instruments that are traded in active markets that were measured at fair
recognition timing for restructuring costs; and requires acquisition costs
value using block discounts, as a cumulative-effect adjustment to open-
to be expensed as incurred. Adoption of SFAS 141(R) is required for
ing retained earnings. As a result of adopting SFAS 157, we recognized a
combinations after December 15, 2008. Early adoption and retroactive
$45 million after-tax ($78 million pre-tax) increase to opening retained
application of SFAS 141(R) to fiscal years preceding the effective date
earnings. For additional information regarding our adoption of SFAS
are not permitted. We are evaluating the impact of adoption on our
157, see Note 4,“FairValue of Financial Instruments,” to the Consolidated
Consolidated Financial Statements.
Financial Statements.
SFAS 160 In December 2007, the FASB issued SFAS No. 160,
SFAS 158 In September 2006, the FASB issued SFAS No. 158,
Noncontrolling Interest in Consolidated Financial Statements (“SFAS 160”).
Employers’ Accounting for Defined Benefit Pension and Other Retirement Plans
SFAS 160 re-characterizes minority interests in consolidated subsidiar-
(“SFAS 158”), which requires an employer to recognize the over- or
ies as non-controlling interests and requires the classification of minor-
under-funded status of its defined benefit postretirement plans as an asset
ity interests as a component of equity. Under SFAS 160, a change in
or liability in its Consolidated Statement of Financial Condition, mea-
control will be measured at fair value, with any gain or loss recognized
sured as the difference between the fair value of the plan assets and the
in earnings. The effective date for SFAS 160 is for annual periods
benefit obligation. For pension plans, the benefit obligation is the pro-
beginning on or after December 15, 2008. Early adoption and retroac-
jected benefit obligation; while for other postretirement plans the ben-
tive application of SFAS 160 to fiscal years preceding the effective date
efit obligation is the accumulated postretirement obligation. Upon
are not permitted. We are evaluating the impact of adoption on our
adoption, SFAS 158 requires an employer to recognize previously unrecog-
Consolidated Financial Statements.
nized actuarial gains and losses and prior service costs within Accumulated
FIN 48 In June 2006, the FASB issued FIN 48, which sets out a
other comprehensive income/(loss) (net of tax), a component of
framework for management to use to determine the appropriate level of
89
90
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
tax reserves to maintain for uncertain tax positions. This interpretation
not affect our Consolidated Financial Statements because it clarified the
of SFAS 109 uses a two-step approach wherein a tax benefit is recog-
acceptability of existing market practice, which we use, of netting cash
nized if a position is more likely than not to be sustained, and the
collateral against net derivative assets and liabilities.
amount of benefit is then measured on a probabilistic approach, as
FSP FIN 48-1 In May 2007, the FASB directed the FASB Staff to
defined in FIN 48. FIN 48 also sets out disclosure requirements to
issue FSP No. FIN 48-1, Definition of “Settlement” in FASB Interpretation
enhance transparency of an entity’s tax reserves. We must adopt FIN 48
No. 48 (“FSP FIN 48-1”). Under FSP FIN 48-1, a previously unrecog-
as of the beginning of our 2008 fiscal year. We estimate that the effect of
nized tax benefit may be subsequently recognized if the tax position is
adopting FIN 48 at the beginning of the first quarter of 2008 to be a
effectively settled and other specified criteria are met. We are evaluating
decrease to opening retained earnings of approximately $190 million.
the effect of adopting FSP FIN 48-1 on our Consolidated Financial
SOP 07-1 In June 2007, the AICPA issued Statement of Position
Statements as part of our evaluation of the effect of adopting FIN 48.
(“SOP”) No. 07-1, Clarification of the Scope of the Audit and Accounting
FSP FIN 46(R)-7 In May 2007, the FASB directed the FASB Staff
Guide Investment Companies and Accounting by Parent Companies and Equity
to issue FSP No. FIN 46(R)-7, Application of FASB Interpretation No.
Method Investors for Investments in Investment Companies (“SOP 07-1”).
46(R) to Investment Companies (“FSP FIN 46(R)-7”). FSP FIN 46(R)-7
SOP 07-1 addresses when the accounting principles of the AICPA Audit
makes permanent the temporary deferral of the application of the provi-
and Accounting Guide Investment Companies must be applied by an
sions of FIN 46(R) to unregistered investment companies, and extends
entity and whether those accounting principles must be retained by a
the scope exception from applying FIN 46(R) to include registered
parent company in consolidation or by an investor in the application of
investment companies. FSP FIN 46(R)-7 is effective upon adoption of
the equity method of accounting. SOP 07-1 is effective for our fiscal
SOP 07-1. We are evaluating the effect of adopting FSP FIN 46(R)-7
year beginning December 1, 2008.We are evaluating the effect of adopt-
on our Consolidated Financial Statements.
ing SOP 07-1 on our Consolidated Financial Statements.
SAB 108 In September 2006, the Securities and Exchange
EITF Issue No. 04-5 In June 2005, the FASB ratified the consensus
Commission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No.
reached in EITF 04-5 which requires general partners (or managing
108, Considering the Effects of Prior Year Misstatements when Quantifying
members in the case of limited liability companies) to consolidate their
Misstatements in Current Year Financial Statements (“SAB 108”). SAB 108
partnerships or to provide limited partners with either (i) rights to
specifies how the carryover or reversal of prior-year unrecorded financial
remove the general partner without cause or to liquidate the partnership;
statement misstatements should be considered in quantifying a current-
or (ii) substantive participation rights. As the general partner of numerous
year misstatement. SAB 108 requires an approach that considers the
private equity and asset management partnerships, we adopted EITF
amount by which the current-year statement of income is misstated
04-5 effective June 30, 2005 for partnerships formed or modified after
(“rollover approach”) and an approach that considers the cumulative
June 29, 2005. For partnerships formed on or before June 29, 2005 that
amount by which the current-year statement of financial condition is
had not been modified, we adopted EITF 04-5 as of the beginning of
misstated (“iron-curtain approach”). Prior to the issuance of SAB 108,
our 2007 fiscal year. The adoption of EITF 04-5 did not have a material
either the rollover or iron-curtain approach was acceptable for assessing
effect on our Consolidated Financial Statements.
the materiality of financial statement misstatements. SAB 108 became
FSP FIN 46(R)-6 In April 2006, the FASB issued FASB Staff
effective for our fiscal year ended November 30, 2006. Upon adoption,
Position (“FSP”) FIN 46(R)-6, Determining the Variability to Be Considered
SAB 108 allowed a cumulative-effect adjustment to opening retained
in Applying FASB Interpretation No. 46(R) (“FSP FIN 46(R)-6”).This FSP
earnings at December 1, 2005 for prior-year misstatements that were not
addresses how a reporting enterprise should determine the variability to
material under a prior approach but that were material under the SAB
be considered in applying FIN 46(R) by requiring an analysis of the
108 approach. Adoption of SAB 108 did not affect our Consolidated
purpose for which an entity was created and the variability that the entity
Financial Statements.
was designed to create. We adopted FSP FIN 46(R)-6 on September 1,
SAB 109 In November 2007, the SEC issued SAB No. 109,
2006 and applied it prospectively to all entities in which we first became
Written Loan Commitments Recorded at Fair Value Through Earnings (“SAB
involved after that date. Adoption of FSP FIN 46(R)-6 did not have a
109”). SAB 109 supersedes SAB No. 105, Loan Commitments Accounted for
material effect on our Consolidated Financial Statements.
as Derivative Instruments (“SAB 105”), and expresses the view, consistent
FSP FIN 39-1 In April 2007, the FASB directed the FASB Staff to
with the guidance in SFAS 156 and SFAS 159, that the expected net
issue FSP No. FIN 39-1, Amendment of FASB Interpretation No. 39 (“FSP
future cash flows related to the associated servicing of the loan should be
FIN 39-1”). FSP FIN 39-1 modifies FIN No. 39, Offsetting of Amounts
included in the measurement of all written loan commitments that are
Related to Certain Contracts, and permits companies to offset cash collat-
accounted for at fair value through earnings. SAB 105 also expressed the
eral receivables or payables with net derivative positions under certain
view that internally-developed intangible assets (such as customer rela-
circumstances. FSP FIN 39-1 is effective for fiscal years beginning after
tionship intangible assets) should not be recorded as part of the fair value
November 15, 2007, with early adoption permitted. FSP FIN 39-1 does
of a derivative loan commitment. SAB 109 retains that view and broadens
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
its application to all written loan commitments that are accounted for at
Effect of Adoption The table presented below summarizes the
fair value through earnings. Adoption of SAB 109 did not have a material
impact of adoption from the accounting developments summarized
affect on our Consolidated Financial Statements.
above on our results of operations, if any, actual or estimated:
IN MILLIONS
DATE OF ADOPTION
ACCUMULATED OTHER
COMPREHENSIVE INCOME/(LOSS)
RETAINED EARNINGS
NET INCOME
YEAR ENDED NOVEMBER 30, 2006
SFAS 123(R)
December 1, 2005
$ 47
SFAS 155
December 1, 2005
$ (24)
SFAS 156
December 1, 2005
18
YEAR ENDED NOVEMBER 30, 2007
SFAS 157
December 1, 2006
SFAS 158
November 30, 2007
SFAS 159
December 1, 2006
45
$(210)
22
ESTIMATED IMPACT TO YEAR ENDED NOVEMBER 30, 2008
FIN 48
December 1, 2007
(190)
The ASF Framework On December 6, 2007, the American
OCA requested the FASB to immediately address the issues that have
Securitization Forum (“ASF”), working with various constituency
arisen in the application of the QSPE guidance in SFAS 140. Any loan
groups as well as representatives of U.S. federal government agencies,
modifications we make in accordance with the ASF Framework will not
issued the Streamlined Foreclosure and Loss Avoidance Framework for
have a material affect on our accounting for U.S. subprime residential
Securitized Subprime Adjustable Rate Mortgage Loans (the “ASF
mortgage loans nor securitizations or retained interests in securitizations
Framework”). The ASF Framework provides guidance for servicers
of U.S. subprime residential mortgage loans.
to streamline borrower evaluation procedures and to facilitate the
Basel II As of December 1, 2005, Holdings became regulated by
use of foreclosure and loss prevention efforts in an attempt to reduce
the SEC as a consolidated supervised entity (“CSE”). This supervision
the number of U.S. subprime residential mortgage borrowers who
imposes group-wide supervision and examination by the SEC, mini-
might default in the coming year because the borrowers cannot
mum capital requirements on a consolidated basis and reporting (includ-
afford to pay the increased loan interest rate after their U.S. sub-
ing reporting of capital adequacy measurement consistent with the
prime residential mortgage variable loan rate resets. The ASF
standards adopted by the Basel Committee on Banking Supervision) and
Framework requires a borrower and its U.S. subprime residential
notification requirements.
mortgage variable loan to meet specific conditions to qualify for a
The Basel Committee on Banking Supervision published an
modification under which the qualifying borrower’s loan’s interest
updated framework to calculate risk-based capital requirements in June
rate would be kept at the existing rate, generally for five years fol-
2004 (“Basel II”). In September 2006, U.S. federal bank regulators
lowing an upcoming reset period. The ASF Framework is focused
announced their intent to implement Basel II in the U.S. On
on U.S. subprime first-lien adjustable-rate residential mortgages that
December 10, 2007, the U.S. federal bank regulators published final
have an initial fixed interest rate period of 36 months or less, are
rules implementing the Basel II framework for the calculation of
included in securitized pools, were originated between January 1,
minimum capital requirements. Within the minimum capital require-
2005 and July 31, 2007, and have an initial interest rate reset date
ments, or “first pillar” of Basel II, the federal rules deal only with the
between January 1, 2008 and July 31, 2010 (defined as “Segment 2
capital risk or banking book component. U.S. federal bank regulators
Subprime ARM Loans” within the ASF Framework).
have indicated that final rules to update market risk or trading book
On January 8, 2008, the SEC’s Office of Chief Accountant (the
rules will be issued in the near future.
“OCA”) issued a letter (the “OCA Letter”) addressing accounting issues
Basel II is meant to be applied on a consolidated basis for banking
that may be raised by the ASF Framework. Specifically, the OCA Letter
institutions or bank holding companies that have consolidated total assets
expressed the view that if a Segment 2 Subprime ARM Loan is modified
of $250 billion or more and/or consolidated total on-balance-sheet
pursuant to the ASF Framework and that loan could legally be modified,
foreign exposure of $10 billion or more. Basel II provides two broad
the OCA will not object to continued status of the transferee as a QSPE
methods for calculating minimum capital requirements related to credit
under SFAS 140. Concurrent with the issuance of the OCA Letter, the
risk (i) a standardized approach that relies heavily upon external credit
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LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
assessments by major independent credit rating agencies; and (ii) an
also calculate its risk-based capital requirements under the new Basel II
internal ratings-based approach that permits the use of internal rating
framework; and (ii) two or three transition years, during which an entity
assessments in determining required capital.
would be subject to the new framework and an entity’s minimum risk-
The time frame in which Basel II requirements would become
based capital would be subject to a floor.
effective for U.S. banking institutions or bank holding companies is
The Basel II framework is anticipated to impact our minimum
contemplated to be (i) one or more years of parallel calculation, in which
capital requirements and reporting (including reporting of capital ade-
an entity would remain subject to existing risk-based capital rules but
quacy measurements) as a CSE.
N O T E 2 B U S I N E S S S E G M E N T S A N D G E O G R A P H I C I N F O R M AT I O N
BUSINESS SEGMENTS
We organize our business operations into three business segments:
Capital Markets, Investment Banking and Investment Management.
proprietary trading activities and in principal investing in real estate that
are managed within this component.
Equities We make markets in and trade equities and equity-related
Our business segment information for the periods ended in 2007,
products and enter into a variety of derivative transactions. We also pro-
2006 and 2005 is prepared using the following methodologies and gen-
vide equity-related research coverage as well as execution and clearing
erally represents the information that is relied upon by management in
activities for clients. Through our capital markets prime services, we
its decision-making processes:
provide prime brokerage services to the hedge fund community.We also
■
■
■
Revenues and expenses directly associated with each business
engage in certain proprietary trading activities and private equity and
segment are included in determining income before taxes.
other related investments.
Revenues and expenses not directly associated with specific busi-
Investment Banking We take an integrated approach to client
ness segments are allocated based on the most relevant measures
coverage, organizing bankers into industry, product and geographic
applicable, including each segment’s revenues, headcount and
groups within our Investment Banking segment. Business activities
other factors.
provided to corporations and governments worldwide can be sepa-
Net revenues include allocations of interest revenue, interest
rated into:
expense and revaluation of certain long-term and short-term
Global Finance We serve our clients’ capital raising needs through
debt measured at fair value to securities and other positions in
underwriting, private placements, leveraged finance and other activities
relation to the cash generated by, or funding requirements of, the
associated with debt and equity products.
underlying positions.
■
Advisory Services We provide business advisory services with
Business segment assets include an allocation of indirect corpo-
respect to mergers and acquisitions, divestitures, restructurings, and other
rate assets that have been fully allocated to our segments, generally
corporate activities.
based on each segment’s respective headcount figures.
Capital Markets Our Capital Markets segment is divided into
two components:
Investment Management The Investment Management business
segment consists of:
Asset Management We provide customized investment manage-
Fixed Income We make markets in and trade municipal and public
ment services for high net worth clients, mutual funds and other small
sector instruments, interest rate and credit products, mortgage-related
and middle market institutional investors. Asset Management also serves
securities and loan products, currencies and commodities. We also origi-
as general partner for private equity and other alternative investment
nate mortgages and we structure and enter into a variety of derivative
partnerships and has minority stake investments in certain alternative
transactions. We also provide research covering economic, quantitative,
investment managers.
strategic, credit, relative value, index and portfolio analyses. Additionally,
Private Investment Management We provide investment, wealth
we provide financing, advice and servicing activities to the hedge fund
advisory and capital markets execution services to high net worth and
community, known as prime brokerage services. We engage in certain
middle market institutional clients.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
BUSINESS SEGMENTS
CAPITAL
MARKETS
INVESTMENT
BANKING
INVESTMENT
MANAGEMENT
TOTAL
Gross revenues
$51,897
$ 3,903
$ 3,203
$59,003
Interest expense
39,640
—
106
39,746
Net revenues
12,257
3,903
3,097
19,257
432
48
97
577
7,626
2,832
2,209
12,667
Income before taxes
$ 4,199
$ 1,023
$
791
$ 6,013
Segment assets (in billions)
$ 680.5
$
$
9.2
$ 691.1
Gross revenues
$ 41,074
$ 3,160
$ 2,475
$ 46,709
Interest expense
29,068
—
58
29,126
Net revenues
12,006
3,160
2,417
17,583
IN MILLIONS
AT AND FOR THE YEAR ENDED NOVEMBER 30, 2007
Depreciation and amortization expense
Other expenses
1.4
AT AND FOR THE YEAR ENDED NOVEMBER 30, 2006
Depreciation and amortization expense
Other expenses
377
42
95
514
6,909
2,458
1,797
11,164
Income before taxes
$ 4,720
$
660
$
525
$ 5,905
Segment assets (in billions)
$ 493.5
$
1.3
$
8.7
$ 503.5
Gross revenues
$ 27,545
$ 2,894
$ 1,981
$ 32,420
Interest expense
17,738
—
52
17,790
9,807
2,894
1,929
$ 14,630
AT AND FOR THE YEAR ENDED NOVEMBER 30, 2005
Net revenues
Depreciation and amortization expense
Other expenses
■
■
■
308
36
82
426
5,927
2,003
1,445
9,375
Income before taxes
$ 3,572
$
855
$
402
$ 4,829
Segment assets (in billions)
$ 401.9
$
1.2
$
7.0
$ 410.1
NET REVENUES BY GEOGRAPHIC REGION
We organize our operations into three geographic regions:
of Investment Banking or Asset Management, respectively, or where
Europe and the Middle East, inclusive of our operations in Russia
Investment Management. Certain revenues associated with U.S. products
and Turkey;
and services that result from relationships with international clients have
Asia-Pacific, inclusive of our operations in Australia and India;
been classified as international revenues using an allocation process. In
and
addition, expenses contain certain internal allocations, such as regional
the Americas.
transfer pricing, which are centrally managed. The methodology for
Net revenues presented by geographic region are based upon the
allocating the Firm’s revenues and expenses to geographic regions is
location of the senior coverage banker or investment advisor in the case
the position was risk managed within Capital Markets and Private
dependent on the judgment of management.
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LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
The following presents, in management’s judgment, a reasonable representation of each region’s contribution to our operating results.
GEOGRAPHIC OPERATING RESULTS
YEAR ENDED NOVEMBER 30,
IN MILLIONS
2007
2006
2005
$ 6,296
4,221
2,075
$ 4,536
$ 3,601
3,303
2,689
1,233
912
3,145
1,831
1,314
1,809
1,650
1,191
872
618
778
9,634
182
9,816
7,192
2,624
11,116
9,270
122
11,238
109
9,379
7,184
6,240
4,054
3,139
19,257
13,244
$ 6,013
17,583
14,630
EUROPE AND THE MIDDLE EAST
Net revenues
Non-interest expense
Income before taxes
ASIA-PACIFIC
Net revenues
Non-interest expense
Income before taxes
AMERICAS
U.S.
Other Americas
Net revenues
Non-interest expense
Income before taxes
TOTAL
Net revenues
Non-interest expense
Income before taxes
11,678
9,801
$ 5,905
$ 4,829
N O T E 3 F I N A N C I A L I N S T R U M E N T S A N D O T H E R I N V E N T O RY P O S I T I O N S
Financial instruments and other inventory positions owned and Financial instruments and other inventory positions sold but not yet purchased
were comprised of the following:
OWNED
IN MILLIONS
Mortgage and asset-backed securities
SOLD BUT NOT YET PURCHASED
NOV 30, 2007
NOV 30, 2006
NOV 30, 2007
NOV 30, 2006
$ 89,106
$ 57,726
Government and agencies
40,892
47,293
Corporate debt and other
54,098
43,764
6,759
8,836
Corporate equities
58,521
43,087
39,080
28,464
Real estate held for sale
21,917
9,408
—
—
4,000
2,622
12
110
44,595
22,696
31,621
18,017
$226,596
$149,617
$125,960
Commercial paper and other money market instruments
Derivatives and other contractual agreements
$313,129
$
332
71,813
$
80
70,453
Mortgage and asset-backed securities Mortgage and asset-
It is our intent to sell through securitization or syndication activi-
backed securities include residential and commercial whole loans and
ties, residential and commercial mortgage whole loans we originate, as
interests in residential and commercial mortgage-backed securitizations.
well as those we acquire in the secondary market.We originated approx-
Also included within Mortgage and asset-backed securities are securities
imately $47 billion and $60 billion of residential mortgage loans in 2007
whose cash flows are based on pools of assets in bankruptcy-remote
and 2006, respectively, and approximately $60 billion and $34 billion of
entities, or collateralized by cash flows from a specified pool of underly-
commercial mortgage loans in 2007 and 2006, respectively.
ing assets. The pools of assets may include, but are not limited to mortgages, receivables and loans.
Balances reported for Mortgage and asset-backed securities
include approximately $12.8 billion and $5.5 billion in 2007 and 2006,
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
respectively, of loans transferred to securitization vehicles where such
“Securitizations and Special Purpose Entities,” to the Consolidated
transfers were accounted for as secured financings rather than sales
Financial Statements.
under SFAS 140. The securitization vehicles issued securities that were
In 2007 and 2006, our inventory of Mortgage and asset-backed
distributed to investors. We do not consider ourselves to have eco-
securities, excluding those that were accounted for as financings
nomic exposure to the underlying assets in those securitization vehi-
rather than sales under SFAS 140, generally included the following
cles. For further discussion of our securitization activities, see Note 6,
types of assets:
IN MILLIONS
NOVEMBER 30, 2007
NOVEMBER 30, 2006
Whole loans
$19,587
$18,749
Securities (1)
16,488
7,923
1,183
829
RESIDENTIAL AND ASSET BACKED:
Servicing
86
16
$37,344
$27,517
Whole loans
$26,200
$22,426
Securities (2)
12,180
1,948
Other
COMMERCIAL:
Other
Total
558
351
$38,938
$24,725
$76,282
$52,242
(1)
Includes approximately $7.1 billion of investment grade retained interests in securitizations and approximately $1.6 billion of non-investment grade retained interests in securitizations
at November 30, 2007. Includes approximately $5.3 billion of investment grade retained interests in securitizations and approximately $2.0 billion of non-investment grade retained
interests in securitizations at November 30, 2006.
(2)
Includes approximately $2.4 billion of investment grade retained interests in securitizations and approximately $0.03 billion of non-investment grade retained interests in securitizations
at November 30, 2007. Includes approximately $0.6 billion of investment grade retained interests in securitizations at November 30, 2006.
In 2007 and 2006, our portfolio of U.S. subprime residential mortgages, a component of our Mortgage and asset-backed securities
inventory, were:1
IN MILLIONS
NOVEMBER 30, 2007
NOVEMBER 30, 2006
$3,226
$4,978
1,995
1,817
U.S. residential subprime mortgages
Whole loans (1)
Retained interests in securitizations
Other
Total
(1)
55
54
$5,276
$6,849
Excludes loans which were accounted for as financings rather than sales under SFAS 140 which were approximately $2.9 billion and $3.0 billion at November 30, 2007 and 2006, respectively.
Government and agencies Included within these balances are
Non-derivative, physical commodities are reported as a component
instruments issued by a national government or agency thereof, denom-
of this line item and were approximately $308 million in 2007. In 2006,
inated in the country’s own currency or in a foreign currency (e.g.,
we did not have any non-derivative, physical commodities.
sovereign) as well as municipals.
Corporate equities Balances generally reflect held positions in any
Corporate debt and other Longer-term debt instruments, gener-
instrument that has an equity ownership component, such as equity-
ally with a maturity date falling at least a year after their issue date, not
related positions, public ownership equity securities that are listed on
issued by governments and may or may not be traded on major
public exchanges, private equity-related positions and non-public own-
exchanges, are included within this component.
ership equity securities that are not listed on a public exchange.
1
We generally define U.S. subprime residential mortgage loans as those associated with borrowers having a credit score in the range of 620 or lower using the Fair Isaac Corporation’s statistical
model, or having other negative factors within their credit profiles. Prior to its closure in our third quarter, we originated subprime residential mortgage loans through BNC Mortgage LLC (“BNC”), a
wholly-owned subsidiary of our U.S. regulated thrift Lehman Brothers Bank, FSB. BNC served borrowers with subprime qualifying credit profiles but also served borrowers with stronger credit history
as a result of broker relationships or product offerings and such loans are also included in our subprime business activity. For residential mortgage loans purchased from other mortgage originators,
we use a similar subprime definition as for our origination activity. Additionally, second lien loans are included in our subprime business activity.
95
96
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
Real estate held for sale Real estate held for sale of $21.9 billion
Derivatives and other contractual agreements These balances
and $9.4 billion at November 30, 2007 and 2006, respectively, reflects
generally represent future commitments to exchange interest payment
our investments in parcels of land and related physical property.We invest
streams or currencies based on contract or notional amounts or to pur-
in entities whose underlying assets are Real estate held for sale. We con-
chase or sell other financial instruments or physical assets at specified
solidate those entities in which we are the primary beneficiary in accor-
terms on a specified date. Both over-the-counter and exchange-traded
dance with FIN 46(R). We do not consider ourselves to have economic
derivatives are reflected.
exposure to the total underlying assets in those entities. Our net invest-
The following table presents the fair value of Derivatives and
ment positions related to Real estate held for sale, excluding the amounts
other contractual agreements at November 30, 2007 and 2006. Assets
that have been consolidated but for which we do not consider ourselves
included in the table represent unrealized gains, net of unrealized
to have economic exposure, was $12.8 billion and $5.9 billion at
losses, for situations in which we have a master netting agreement.
November 30, 2007 and 2006, respectively.
Similarly, liabilities represent net amounts owed to counterparties. The
Commercial paper and other money market instruments
fair value of derivative contracts represents our net receivable/payable
Commercial paper and other money market instruments include short-
for derivative financial instruments before consideration of securities
term obligations, generally issued by financial institutions or corpora-
collateral. Asset and liabilities are presented below net of cash collateral
tions, with maturities within a calendar year of the financial statement
of approximately $19.7 billion and $17.5 billion, respectively, at
date.These instruments may include promissory notes, drafts, checks and
November 30, 2007 and $11.1 billion and $8.2 billion, respectively, at
certificates of deposit.
November 30, 2006.
FAIR VALUE OF DERIVATIVES AND OTHER CONTRACTUAL AGREEMENTS
NOVEMBER 30, 2007
IN MILLIONS
NOVEMBER 30, 2006
ASSETS
LIABILITIES
ASSETS
LIABILITIES
$22,028
$10,915
$ 8,634
$ 5,691
Foreign exchange forward contracts and options
2,479
2,888
1,792
2,145
Other fixed income securities
contracts (including TBAs and forwards)
8,450
6,024
4,308
2,604
Equity contracts (including equity swaps,
warrants and options)
8,357
9,279
4,739
4,744
Over-the-Counter:
(1)
Interest rate, currency and credit default swaps and options
Exchange Traded:
Equity contracts (including equity swaps,
warrants and options)
(1)
3,281
2,515
3,223
2,833
$44,595
$31,621
$22,696
$18,017
Our net credit exposure for OTC contracts is $34.6 billion and $15.6 billion at November 30, 2007 and 2006, respectively, representing the fair value of OTC contracts in a net receivable
position, after consideration of collateral.
At November 30, 2007, our Derivatives and other contractual
agreements include approximately $1.5 billion of both commodity
may impair the ability of clients and counterparties to satisfy their
obligations to us.
derivative assets and liabilities. At November 30, 2006, our commodity
Financial instruments and other inventory positions owned include
derivative assets and liabilities were $268 million and liabilities of $277
U.S. government and agency securities, and securities issued by non-U.S.
million, respectively.
governments, which in the aggregate represented 6% and 9% of total
CONCENTRATIONS OF CREDIT RISK
A substantial portion of our securities transactions are collateral-
assets at November 30, 2007 and 2006, respectively. In addition, collateral
ized and are executed with, and on behalf of, financial institutions,
total assets at November 30, 2007 and 2006, respectively, and primarily
which includes other brokers and dealers, commercial banks and insti-
consisted of securities issued by the U.S. government, federal agencies or
tutional clients. Our exposure to credit risk associated with the non-
non-U.S. governments. Our most significant industry concentration is
performance of these clients and counterparties in fulfilling their
financial institutions, which includes other brokers and dealers, com-
contractual obligations with respect to various types of transactions
mercial banks and institutional clients. This concentration arises in the
can be directly affected by volatile or illiquid trading markets, which
normal course of business.
held for resale agreements represented approximately 24% and 23% of
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
N O T E 4 FA I R VA L U E O F F I N A N C I A L I N S T R U M E N T S
Financial instruments and other inventory positions owned,
The types of assets and liabilities carried at Level I fair value gener-
excluding Real estate held for sale, and Financial instruments and other
ally are G-7 government and agency securities, equities listed in
inventory positions sold but not yet purchased, are presented at fair value.
active markets, investments in publicly traded mutual funds with
In addition, certain long and short-term borrowing obligations, princi-
quoted market prices and listed derivatives.
pally certain hybrid financial instruments, and certain deposit liabilities
Level II Inputs (other than quoted prices included in Level I) are
at banks, are presented at fair value.
either directly or indirectly observable for the asset or liability
Fair value is defined as the price at which an asset could be
through correlation with market data at the measurement date and
exchanged in a current transaction between knowledgeable, willing par-
for the duration of the instrument’s anticipated life.
ties. A liability’s fair value is defined as the amount that would be paid to
Fair valued assets and liabilities that are generally included in this
transfer the liability to a new obligor, not the amount that would be paid
category are non-G-7 government securities, municipal bonds, cer-
to settle the liability with the creditor.Where available, fair value is based
tain hybrid financial instruments, certain mortgage and asset backed
on observable market prices or parameters or derived from such prices
securities, certain corporate debt, certain commitments and guaran-
or parameters. Where observable prices or inputs are not available, valu-
tees, certain private equity investments and certain derivatives.
ation models are applied. These valuation techniques involve some level
Level III Inputs reflect management’s best estimate of what market
of management estimation and judgment, the degree of which is depen-
participants would use in pricing the asset or liability at the measure-
dent on the price transparency for the instruments or market and the
ment date. Consideration is given to the risk inherent in the valua-
instruments’ complexity.
tion technique and the risk inherent in the inputs to the model.
Beginning December 1, 2006, assets and liabilities recorded at fair
Generally, assets and liabilities carried at fair value and included in
value in the Consolidated Statement of Financial Condition are catego-
this category are certain mortgage and asset-backed securities, cer-
rized based upon the level of judgment associated with the inputs used
tain corporate debt, certain private equity investments, certain
to measure their fair value. Hierarchical levels – defined by SFAS 157
and directly related to the amount of subjectivity associated with the
inputs to fair valuation of these assets and liabilities – are as follows:
commitments and guarantees and certain derivatives.
FAIR VALUE ON A RECURRING BASIS
Assets and liabilities measured at fair value on a recurring basis are
Level I Inputs are unadjusted, quoted prices in active markets for
categorized in the tables below based upon the lowest level of significant
identical assets or liabilities at the measurement date.
input to the valuations.
ASSETS AT FAIR VALUE AS OF NOVEMBER 30, 2007
IN MILLIONS
Mortgage and asset-backed securities
(1)
LEVEL II
LEVEL III
TOTAL
240
$ 63,672
$ 25,194
$ 89,106
Government and agencies
25,393
15,499
—
40,892
Corporate debt and other
324
50,692
3,082
54,098
39,336
11,054
8,131
58,521
Corporate equities
$
LEVEL I
Commercial paper and other money market instruments
4,000
—
—
4,000
Derivative assets (2)
3,281
35,742
5,572
44,595
$ 72,574
$176,659
$ 41,979
$291,212
(1)
Includes loans transferred to securitization vehicles where such transfers were accounted for as secured financings rather than sales under SFAS 140. The securitization vehicles issued
securities that were distributed to investors. We do not consider ourselves to have economic exposure to the underlying assets in those securitization vehicles. The loans are reflected
as an asset within Mortgages and asset-backed positions and the proceeds received from the transfer are reflected as a liability within Other secured borrowings. These loans are
classified as Level II assets.
(2)
Derivative assets are presented on a net basis by level. Inter- and intra-level cash collateral, cross-product and counterparty netting at November 30, 2007 was approximately $38.8 billion.
97
98
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
LIABILITIES AT FAIR VALUE AS OF NOVEMBER 30, 2007
IN MILLIONS
LEVEL I
Mortgage and asset-backed positions
$
Government and agencies
Corporate debt and other
Corporate equities
Commercial paper and other money market instruments
Derivative liabilities (1)
(1)
—
LEVEL II
$
332
LEVEL III
$
—
TOTAL
$
332
67,484
4,329
—
71,813
22
6,737
—
6,759
39,080
—
—
39,080
12
—
—
12
2,515
26,011
3,095
31,621
$109,113
$37,409
$ 3,095
$149,617
Derivative liabilities are presented on a net basis by level. Inter- and intra-level cash collateral, cross-product and counterparty netting at November 30, 2007 was approximately $36.6 billion.
LEVEL III GAINS AND LOSSES
Net revenues (both realized and unrealized) for Level III financial
financial instruments may be economically hedged with financial instru-
instruments are a component of Principal transactions in the Consolidated
Level III financial instruments are offset by gains or losses associated with
Statement of Income. Net realized gains associated with Level III finan-
financial instruments classified in other levels of the fair value hierarchy.
ments not classified as Level III; therefore, gains or losses associated with
cial instruments were approximately $1.3 billion for the fiscal year ended
The table presented below summarizes the change in balance sheet
November 30, 2007. The net unrealized loss on Level III non-derivative
carrying values associated with Level III financial instruments during the
financial instruments was approximately $2.5 billion for the fiscal year
fiscal year ended November 30, 2007. Caution should be utilized when
ended November 30, 2007, primarily consisting of unrealized losses from
evaluating reported net revenues for Level III Financial instruments.The
mortgage and asset-backed positions. The net unrealized gain on Level
values presented exclude economic hedging activities that may be trans-
III derivative financial instruments was approximately $1.6 billion for the
acted in instruments categorized within other fair value hierarchy levels.
fiscal year ended November 30, 2007, primarily consisting of unrealized
Actual net revenues associated with Level III financial instruments inclu-
gains from equity and interest rate-related derivative positions. Level III
sive of hedging activities could differ materially.
IN MILLIONS
Balance at December 1, 2006
MORTGAGE AND ASSETBACKED POSITIONS
CORPORATE
DEBT AND OTHER
CORPORATE
EQUITIES
$ 8,575
$ 1,924
$ 2,427
6,914
472
4,567
11,373
567
687
995
110
309
9
141
1,583
$ 3,082
$ 8,131
$ 2,477
Net Payments, Purchases and Sales
Net Transfers In/(Out)
NET DERIVATIVES
$
686
TOTAL
$13,612
376
12,329
(90)
12,537
(78)
1,336
Gains/(Losses) (1)
Realized
Unrealized
Balance at November 30, 2007
(1)
(2,663)
$25,194
(930)
$38,884
Realized or unrealized gains/(losses) from changes in values of Level III Financial instruments represent gains/(losses) from changes in values of those Financial instruments only for
the period(s) in which the instruments were classified as Level III.
The table presented below summarizes the change in balance sheet
values presented exclude economic hedging activities that may be trans-
carrying value associated with Level III financial instruments during each
acted in instruments categorized within other fair value hierarchy levels.
quarterly period in the 2007 fiscal year. Caution should be utilized when
Actual net revenues associated with Level III financial instruments inclu-
evaluating reported net revenues for Level III financial instruments. The
sive of hedging activities could differ materially.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
CORPORATE
DEBT AND OTHER
CORPORATE
EQUITIES
NET DERIVATIVES
TOTAL
$ 8,575
$ 1,924
$ 2,427
$ 686
$13,612
2,349
428
210
283
3,270
137
—
—
—
137
Realized
176
19
21
7
223
Unrealized
(80)
13
13
158
104
11,157
2,384
2,671
1,134
17,346
1,677
50
972
(6)
95
352
39
385
358
IN MILLIONS
MORTGAGE AND ASSETBACKED POSITIONS
Balance at December 1, 2006
Net Payments, Purchases and Sales
Net Transfers In/(Out)
Gains/(Losses) (1)
Balance at February 28, 2007
Net Payments, Purchases and Sales
Net Transfers In/(Out)
(101)
2,693
Gains/(Losses) (1)
Realized
Unrealized
Balance at May 31, 2007
274
31
(131)
(11)
12,876
2,549
5
48
135
65
58
4,135
1,280
20,840
Net Payments, Purchases and Sales
1,674
(299)
446
(59)
1,762
Net Transfers In/(Out)
9,856
(144)
232
(160)
9,784
Gains/(Losses) (1)
Realized
Unrealized
Balance at August 31, 2007
210
7
37
(825)
19
62
543
(4)
250
(201)
23,791
2,132
4,912
1,600
32,435
Net Payments, Purchases and Sales
1,213
292
2,939
157
4,601
Net Transfers In/(Out)
1,480
615
103
31
2,229
255
47
227
(166)
363
(4)
(50)
855
(744)
Gains/(Losses) (1)
Realized
Unrealized
Balance at November 30, 2007
(1)
(1,545)
$25,194
$ 3,082
$ 8,131
$ 2,477
$38,884
Realized or unrealized gains/(losses) from changes in values of Level III Financial instruments represent gains/(losses) from changes in values of those Financial instruments only for
the period(s) in which the instruments were classified as Level III.
credit spreads during fiscal year 2007. As of November 30, 2007, the
FAIR VALUE OPTION
SFAS 159 permits certain financial assets and liabilities to be measured
aggregate principal amount of hybrid financial instruments classified as
at fair value, using an instrument-by-instrument election. Changes in the fair
short-term borrowings and measured at fair value exceeded the fair
value of the financial assets and liabilities for which the fair value option was
value by approximately $152 million. Additionally and as of November
made are reflected in Principal transactions in our Consolidated Statement
30, 2007, the aggregate principal amount of hybrid financial instruments
of Income. As indicated above in the fair value hierarchy tables and further
classified as long-term borrowings and measured at fair value exceeded
discussed in Note 1, “Summary of Significant Accounting Policies,
the fair value by approximately $2.1 billion.
Accounting and Regulatory Developments—SFAS 159,” we elected to
account for the following financial assets and liabilities at fair value:
Other secured borrowings Certain liabilities recorded as Other
secured borrowings include the proceeds received from transferring
Certain hybrid financial instruments These instruments are pri-
loans to securitization vehicles where such transfers were accounted for
marily structured notes that are risk managed on a fair value basis and
as secured financings rather than sales under SFAS 140. The transferred
within our Capital Market activities and for which hedge accounting
loans are reflected as an asset within Mortgages and asset-backed posi-
under SFAS No. 133, Accounting for Derivative Instruments and Hedging
tions and also accounted for at fair value and categorized as Level II in
Activities, had been complex to maintain. Changes in the fair value of
the fair value hierarchy. We do not consider ourselves to have economic
these liabilities, excluding any Interest income or Interest expense, are
exposure to the underlying assets in these securitization vehicles. The
reflected in Principal transactions in our Consolidated Statement of
change in fair value attributable to the observable impact from instru-
Income. We calculate the impact of our own credit spread on hybrid
ment-specific credit risk was not material to our results of operations.
financial instruments carried at fair value by discounting future cash
Deposit liabilities at banks We elected to account for certain
flows at a rate which incorporates observerable changes in our credit
deposits at our U.S. banking subsidiaries at fair value.The change in fair
spread. The estimated changes in the fair value of these liabilities were
value attributable to the observable impact from instrument-specific
gains of approximately $1.3 billion, attributable to the widening of our
credit risk was not material to our results of operations. As of
99
100
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
November 30, 2007, the difference between the fair value and the
Liabilities for which the fair value option was elected are catego-
aggregate principal amount of deposit liabilities at banks carried at fair
rized in the table below based upon the lowest level of significant input
value was not material.
to the valuations.
AT FAIR VALUE AS OF NOVEMBER 30, 2007
IN MILLIONS
LEVEL I
LEVEL II
LEVEL III
TOTAL
Short-term borrowings
—
$ 9,035
—
$ 9,035
Long-term borrowings
—
$27,204
—
$27,204
Other secured borrowings
—
$ 9,149
—
$ 9,149
Deposit liabilities at banks
—
$15,986
—
$15,986
Certain hybrid financial instruments:
FAIR VALUE ON A NONRECURRING BASIS
The Company uses fair value measurements on a nonrecurring
both quantitative and qualitative factors specific to the measurement.
basis in its assessment of assets classified as Goodwill and other inventory
certain securities without relying exclusively on quoted prices for the
positions classified as Real estate held for sale.These assets and inventory
specific securities but comparing the securities to benchmark or compa-
positions are recorded at fair value initially and assessed for impairment
rable securities.
Matrix pricing is a mathematical technique used principally to value
periodically thereafter. During the fiscal year ended November 30, 2007,
Income Approach Income approach valuation techniques convert
the carrying amount of Goodwill assets were compared to their fair
future amounts, such as cash flows or earnings, to a single present
value. No change in carrying amount resulted in accordance with the
amount, or a discounted amount.These techniques rely on current mar-
provisions of SFAS No. 142, Goodwill and Other Intangible Assets.
ket expectations of future amounts. Examples of income approach valu-
Additionally and on a nonrecurring basis during the fiscal year ended
ation techniques include present value techniques; option-pricing
November 30, 2007, the carrying amount of Real estate held for sale
models, binomial or lattice models that incorporate present value tech-
positions were compared to their fair value less cost to sell. No change
niques; and the multi-period excess earnings method.
in carrying amount resulted in accordance with the provisions of SFAS
Cost Approach Cost approach valuation techniques are based
No. 66, Accounting for Sales of Real Estate, SFAS No. 144, Accounting for
upon the amount that, at present, would be required to replace the
Impairment or Disposal of Long Lived Assets, and other relevant accounting
service capacity of an asset, or the current replacement cost. That is,
guidance. The lowest level of inputs for fair value measurements for
from the perspective of a market participant (seller), the price that
Goodwill and Real estate held for sale are Level III.
would be received for the asset is determined based on the cost to a
For additional information regarding Goodwill, see Note 7,
“Identifiable Intangible Assets and Goodwill,” to the Consolidated
market participant (buyer) to acquire or construct a substitute asset of
comparable utility.
Financial Statements. For additional information regarding our inven-
The three approaches described within SFAS 157 are consistent
tory of Real estate held for sale, see Note 3, “Financial Instruments and
with generally accepted valuation methodologies. While all three
Other Inventory Positions,” to the Consolidated Financial Statements.
approaches are not applicable to all assets or liabilities accounted for at
VALUATION TECHNIQUES
In accordance with SFAS 157, valuation techniques used for assets
fair value, where appropriate and possible, one or more valuation tech-
and liabilities accounted for at fair value are generally categorized into
considers the definition of an exit price and the nature of the asset or
three types:
liability being valued and significant expertise and judgment is required.
niques may be used. The selection of the valuation method(s) to apply
Market Approach Market approach valuation techniques use
For assets and liabilities accounted for at fair value, excluding Goodwill
prices and other relevant information from market transactions involving
and Real estate held for sale, valuation techniques are generally a com-
identical or comparable assets or liabilities. Valuation techniques consis-
bination of the market and income approaches. Goodwill and Real
tent with the market approach include comparables and matrix pricing.
estate held for sale valuation techniques generally combine income and
Comparables use market multiples, which might lie in ranges with a
cost approaches. For the fiscal year ended November 30, 2007, the
different multiple for each comparable. The selection of where within
application of valuation techniques applied to similar assets and liabili-
the range the appropriate multiple falls requires judgment, considering
ties has been consistent.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
N O T E 5 S E C U R I T I E S R E C E I V E D A N D P L E D G E D A S C O L L AT E R A L
We enter into secured borrowing and lending transactions to
finance inventory positions, obtain securities for settlement and meet
received as collateral that we sold or repledged was approximately $725
billion and $568 billion at November 30, 2007 and 2006, respectively.
clients’ needs.We receive collateral in connection with resale agreements,
We also pledge our own assets, primarily to collateralize certain
securities borrowed transactions, borrow/pledge transactions, client mar-
financing arrangements. These pledged securities, where the counter-
gin loans and derivative transactions. We generally are permitted to sell
party has the right by contract or custom to sell or repledge the financial
or repledge these securities held as collateral and use them to secure
instruments, were approximately $63 billion and $43 billion at November
repurchase agreements, enter into securities lending transactions or
30, 2007 and 2006, respectively. The carrying value of Financial instru-
deliver to counterparties to cover short positions.
ments and other inventory positions owned that have been pledged or
At November 30, 2007 and 2006, the fair value of securities received
otherwise encumbered to counterparties where those counterparties do
as collateral that we were permitted to sell or repledge was approximately
not have the right to sell or repledge, was approximately $87 billion and
$798 billion and $621 billion, respectively. The fair value of securities
$75 billion at November 30, 2007 and 2006, respectively.
N O T E 6 S E C U R I T I Z AT I O N S A N D S P E C I A L P U R P O S E E N T I T I E S
Generally, residential and commercial mortgages, home equity
in mortgages and asset-backed securities and government and agen-
loans, municipal and corporate bonds, and lease and trade receivables
cies) in the Consolidated Statement of Financial Condition. For
are financial assets that we securitize through SPEs. We may continue
additional information regarding the accounting for securitization
to hold an interest in the financial assets securitized in the form of the
transactions, see Note 1, “Summary of Significant Accounting
securities created in the transaction, including residual interests
Policies—Consolidation Accounting Policies,” to the Consolidated
(“interests in securitizations”) established to facilitate the securitiza-
Financial Statements.
tion transaction. Interests in securitizations are presented within
Financial instruments and other inventory positions owned (primarily
For the periods ended November 30, 2007 and 2006, we securitized the following financial assets:
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Residential mortgages
Commercial mortgages
Municipal and other asset-backed financial instruments
Total
2007
2006
$100,053
$145,860
19,899
18,961
5,532
3,624
$125,484
$168,445
At November 30, 2007 and 2006, we had approximately $1.6
actual risk. We mitigate the risks associated with the below interests in
billion and $2.0 billion, respectively, of non-investment grade interests
securitizations through various risk management dynamic hedging
from our securitization activities.
strategies.These results are calculated by stressing a particular economic
The table below presents: the fair value of our interests in securi-
assumption independent of changes in any other assumption (as
tizations at November 30, 2007 and 2006; model assumptions of mar-
required by U.S. GAAP). In reality, changes in one factor often result
ket factors, sensitivity of valuation models to adverse changes in the
in changes in another factor which may counteract or magnify the
assumptions, as well as cash flows received on such interests in the
effect of the changes outlined in the table below. Changes in the fair
securitizations. The sensitivity analyses presented below are hypotheti-
value based on a 10% or 20% variation in an assumption should not be
cal and should be used with caution since the stresses are performed
extrapolated because the relationship of the change in the assumption
without considering the effect of hedges, which serve to reduce our
to the change in fair value may not be linear.
101
102
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
SECURITIZATION ACTIVITY
NOVEMBER 30, 2007
NOVEMBER 30, 2006
RESIDENTIAL MORTGAGES
OTHER (2)
INVESTMENT
GRADE (1)
NONINVESTMENT
GRADE
OTHER (2)
$ 1.6
$ 2.6
$ 5.3
$ 2.0
$ 0.6
4
6
5
6
5
12.4%
17.0%
—
27.2%
29.1%
—
Effect of 10% adverse change
$ 55
$ 8
$ —
$ 21
$ 61
$ —
Effect of 20% adverse change
$111
$ 10
$ —
$ 35
$110
$ —
DOLLARS IN MILLIONS
Interests in securitizations (in billions)
Weighted-average life (years)
Average constant prepayment rate
Weighted-average credit loss assumption
INVESTMENT
GRADE (1)
NONINVESTMENT
GRADE
$ 7.1
9
RESIDENTIAL MORTGAGES
0.5%
2.4%
0.7%
0.6%
1.3%
—
Effect of 10% adverse change
$107
$104
$ 6
$ 70
$109
$ —
Effect of 20% adverse change
$197
$201
$ 12
$131
$196
$ —
Weighted-average discount rate
7.7%
19.4%
7.3%
7.2%
18.4%
5.8%
Effect of 10% adverse change
$245
$ 53
$ 84
$124
$ 76
$ 13
Effect of 20% adverse change
$489
$102
$166
$232
$147
$ 22
(1)
The amount of investment-grade interests in securitizations related to agency collateralized mortgage obligations was approximately $2.5 billion and $1.9 billion at November 30, 2007
and 2006, respectively.
(2)
At November 30, 2007, other interests in securitizations included approximately $2.4 billion of investment grade commercial mortgages, approximately $26 million of non-investment
grade commercial mortgages and the remainder relates to municipal products. At November 30, 2006, other interests in securitizations included approximately $0.6 billion of investment
grade commercial mortgages.
CASH FLOWS RECEIVED ON INTERESTS IN SECURITIZATIONS
NOVEMBER 30, 2007
NOVEMBER 30, 2006
RESIDENTIAL MORTGAGES
IN MILLIONS
INVESTMENT
GRADE
NONINVESTMENT
GRADE
$898
$633
RESIDENTIAL MORTGAGES
OTHER
INVESTMENT
GRADE
NONINVESTMENT
GRADE
OTHER
$130
$664
$216
$ 59
Mortgage servicing rights Mortgage servicing rights (“MSRs”)
Condition. Effective with the adoption of SFAS 156 as of the beginning
represent the right to future cash flows based upon contractual servicing
of our 2006 fiscal year, MSRs are carried at fair value, with changes in fair
fees for mortgage loans and mortgage-backed securities. Our MSRs
value reported in earnings in the period in which the change occurs. At
generally arise from the securitization of residential mortgage loans that
November 30, 2007 and 2006, the Company had MSRs of approximately
we originate. MSRs are presented within Financial instruments and other
$1.2 billion and $829 million, respectively. Our MSRs activities for the
inventory positions owned on the Consolidated Statement of Financial
year ended November 30, 2007 and 2006 are as follows:
YEAR ENDED NOVEMBER 30,
IN MILLIONS
Balance, beginning of period
Additions, net
2007
2006
$ 829
$ 561
368
507
(209)
(192)
195
(80)
Changes in fair value:
Paydowns/servicing fees
Resulting from changes in valuation assumptions
Change due to SFAS 156 adoption
Balance, end of period
—
33
$1,183
$ 829
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
The determination of MSRs fair value is based upon a discounted
projected interest rates change. For that reason, risk related to MSRs
cash flow valuation model. Cash flow and prepayment assumptions used
directly correlates to changes in prepayment speeds and discount rates.
in our discounted cash flow model are: based on empirical data drawn
We mitigate this risk by entering into hedging transactions.
from the historical performance of our MSRs; consistent with assump-
The following table shows the main assumptions used to determine
tions used by market participants valuing similar MSRs; and from data
the fair value of our MSRs at November 30, 2007 and 2006, the sensitiv-
obtained on the performance of similar MSRs. These variables can, and
ity of our MSRs’ fair value measurements to changes in these assump-
generally will, vary from quarter to quarter as market conditions and
tions, and cash flows received on contractual servicing:
AT NOVEMBER 30,
DOLLARS IN MILLIONS
2007
Weighted-average prepayment speed (CPR)
2006
24.5%
31.1%
Effect of 10% adverse change
$102
$ 84
Effect of 20% adverse change
$190
$154
Discount rate
6.5%
8.0%
Effect of 10% adverse change
$ 20
$ 17
Effect of 20% adverse change
$ 39
$ 26
$276
$255
Cash flows received on contractual servicing
The above sensitivity analysis is hypothetical and should be used
exposures. We mitigate our credit risk, in part, by purchasing default pro-
with caution since the stresses are performed without considering the
tection through credit default swaps with SPEs.We pay a premium to the
effect of hedges, which serve to reduce our actual risk. These results are
SPEs for assuming credit risk under the credit default swap. In these
calculated by stressing a particular economic assumption independent of
transactions, SPEs issue credit-linked notes to investors and use the pro-
changes in any other assumption (as required by U.S. GAAP). In reality,
ceeds to invest in high quality collateral. Our maximum potential loss
changes in one factor often result in changes in another factor which may
associated with our involvement with such credit-linked note transactions
counteract or magnify the effect of the changes outlined in the above
is measured by the fair value of our credit default swaps with such SPEs.
table. Changes in the fair value based on a 10% or 20% variation in an
At November 30, 2007 and 2006, respectively, the fair values of these
assumption should not be extrapolated because the relationship of the
credit default swaps were $3.9 billion and $155 million. The underlying
change in the assumption to the change in fair value may not be linear.
Non-QSPE activities
We have transactional activity with SPEs that
do not meet the QSPE criteria because their permitted activities are not
investment grade collateral held by SPEs where we are the first-lien
holder was $15.7 billion and $10.8 billion at November 30, 2007 and
2006, respectively.
limited sufficiently or the assets are non-qualifying financial instruments
Because the investors assume default risk associated with both the
(e.g., real estate).These SPEs issue credit-linked notes, invest in real estate
reference portfolio and the SPEs’ assets, our expected loss calculations
or are established for other structured financing transactions designed to
generally demonstrate the investors in the SPEs bear a majority of the
meet clients’ investing or financing needs.
entity’s expected losses. Accordingly, we generally are not the primary
A collateralized debt obligation (“CDO”) transaction involves the
beneficiary and therefore do not consolidate these SPEs. In instances
purchase by an SPE of a diversified portfolio of securities and/or loans
where we are the primary beneficiary of the SPEs, we consolidate the
that are then managed by an independent asset manager. Interests in the
SPEs. At November 30, 2007 and 2006, we consolidated approximately
SPE (debt and equity) are sold to third party investors. Our primary role
$180 million and $718 million of these SPEs, respectively. The assets
in a CDO is to act as structuring and placement agent, warehouse pro-
associated with these consolidated SPEs are presented as a component of
vider, underwriter and market maker in the related CDO securities. In
Financial instruments and other inventory positions owned, and the
a typical CDO, at the direction of a third party asset manager, we will
liabilities are presented as a component of Other secured borrowings.
temporarily warehouse securities or loans on our balance sheet pending
We also invest in real estate directly through consolidated subsidiaries
the sale to the SPE once the permanent financing is completed. At
and through VIEs.We consolidate our investments in real estate VIEs when
November 30, 2007 and 2006, we owned approximately $581.2 million
we are the primary beneficiary. We record the assets of these consolidated
and $55.1 million of equity securities in CDOs, respectively. Because our
real estate VIEs as a component of Financial instruments and other inven-
investments do not represent a majority of the CDOs’ equity, we are not
tory positions owned, and the liabilities are presented as a component of
exposed to the majority of the CDOs’ expected losses. Accordingly, we
Other secured borrowings. At November 30, 2007 and 2006, we consoli-
are not the primary beneficiary of the CDOs and therefore we do not
dated approximately $9.8 billion and $3.4 billion, respectively, of real
consolidate them.
estate-related investments. After giving effect to non-recourse financing,
As a dealer in credit default swaps, we make a market in buying and
selling credit protection on single issuers as well as on portfolios of credit
our net investment position in these consolidated real estate VIEs was $6.0
billion and $2.2 billion at November 30, 2007 and 2006, respectively.
103
104
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
The following table summarizes our non-QSPE activities at November 30, 2007 and 2006:
AT NOVEMBER 30,
IN MILLIONS
2007
Credit default swaps with SPEs
$ 3,859
Value of underlying investment-grade collateral
15,744
Value of assets consolidated
Consolidated real estate VIEs
Net investment
In addition to the above, we enter into other transactions with
SPEs designed to meet clients’ investment and/or funding needs. For
2006
$
155
10,754
180
718
9,786
3,380
6,012
2,180
Note 9, “Commitments, Contingencies and Guarantees,” to the
Consolidated Financial Statements.
further discussion of our SPE-related and other commitments, see
N O T E 7 I D E N T I F I A B L E I N TA N G I B L E A S S E T S A N D G O O D W I L L
For the years ended November 30, 2007, 2006 and 2005, aggregate
amortization expense for intangible assets, primarily customer lists, was
Estimated amortization expense for each of the years ending November
30, 2008 through 2012 are as follows:
approximately $47 million, $50 million, and $49 million, respectively.
IN THOUSANDS
Estimated amortization expense
2008
2009
2010
2011
2012
$52,636
$41,283
$39,760
$38,369
$37,531
IDENTIFIABLE INTANGIBLE ASSETS
NOVEMBER 30, 2007
IN MILLIONS
NOVEMBER 30, 2006
GROSS
CARRYING
AMOUNT
ACCUMULATED
AMORTIZATION
GROSS
CARRYING
AMOUNT
ACCUMULATED
AMORTIZATION
$580
$143
$504
$110
98
65
82
51
$678
$208
$586
$161
Amortizable intangible assets:
Customer lists
Other
Intangible assets not subject to amortization:
Mutual fund customer-related intangibles
Trade name
$395
$395
125
125
$520
$520
The changes in the carrying amount of goodwill for the years ended November 30, 2007 and 2006 are as follows:
GOODWILL
CAPITAL
MARKETS
INVESTMENT
MANAGEMENT
TOTAL
$ 187
$2,083
$2,270
116
—
116
25
6
31
Balance (net) at November 30, 2006
328
2,089
2,417
Goodwill acquired
593
168
761
Goodwill disposed
(53)
—
(53)
Purchase price valuation adjustment
12
—
12
Balance (net) at November 30, 2007
$ 880
$2,257
$3,137
IN MILLIONS
Balance (net) at November 30, 2005
Goodwill acquired
Purchase price valuation adjustment
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
NOTE 8 BORROWINGS AND DEPOSIT LIABILITIES
Borrowings and deposit liabilities at banks at November 30, 2007 and 2006 consisted of the following:
AT NOVEMBER 30,
IN MILLIONS
2007
2006
SHORT-TERM BORROWINGS
Unsecured
$ 16,801
$12,878
Commercial paper
Current portion of long-term borrowings
3,101
1,653
Other (1)
7,645
5,880
519
227
Secured
Total
Amount carried at fair value (2)
$ 28,066
$20,638
$ 9,035
$ 6,064
4.54%
Weighted-average contractual interest rate
5.39%
DEPOSIT LIABILITIES AT BANKS
Time deposits
At U.S. banks
At non-U.S. banks
$ 16,189
$14,592
10,974
5,621
1,556
1,199
644
—
$ 29,363
$21,412
$ 15,986
$14,708
Savings deposits
At U.S. banks
At non-U.S. banks
Total
Amount carried at fair value (2)
Weighted-average contractual interest rate
4.67%
4.66%
LONG-TERM BORROWINGS
Senior notes
Subordinated notes
Junior subordinated notes
Total (3)
Amount carried at fair value (2)
Weighted-average contractual interest rate
(4)
$108,914
$75,202
9,259
3,238
4,977
2,738
$123,150
$81,178
$ 27,204
$11,025
4.38%
4.32%
(1)
Principally certain hybrid financial instruments with maturities of less than one year and zero-strike warrants.
(2)
Certain borrowings and deposit liabilities at banks are carried at fair value in accordance with SFAS 155, SFAS 157 and SFAS 159. For additional information, see Note 1, “Summary of
Significant Accounting Polices,” and Note 4, “Fair Value of Financial Instruments,” to the Consolidated Financial Statements.
(3)
In accordance with SFAS No. 107, “Disclosures about Fair Value of Financial Instruments,” the carrying amount of our total long-term borrowings can be approximated at fair value
using a discounted cash flow valuation model with inputs of quoted market prices for similar types of borrowing arrangements. The estimated fair value of our long-term borrowings at
November 30, 2007 was approximately $4.8 billion less than the carrying amount. The estimated fair value of our long-term borrowings at November 30, 2006 was approximately $250
million more than the carrying amount.
(4)
Weighted-average contractual interest rates for U.S.-dollar denominated obligations were 5.30% and 5.21% at November 30, 2007 and 2006, respectively. Weighted-average contractual
interest rates for non-U.S.-dollar denominated obligations were 3.42% and 3.15% at November 30, 2007 and 2006, respectively.
105
106
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
MATURITY PROFILE
The maturity dates of long-term borrowings are as follows:
U.S. DOLLAR
IN MILLIONS
Maturing in fiscal 2008
Maturing in fiscal 2009
Maturing in fiscal 2010
Maturing in fiscal 2011
Maturing in fiscal 2012
December 1, 2012 and thereafter
NON-U.S. DOLLAR
FIXED
RATE
FLOATING
RATE
—
$ 2,369
3,754
2,215
4,636
—
$ 14,121
4,845
3,315
2,605
$
TOTAL
FIXED
RATE
FLOATING
RATE
NOVEMBER 30,
2007
NOVEMBER 30,
2006
—
429
1,663
1,798
3,234
—
$ 8,104
3,269
7,287
7,513
—
$ 25,023
13,531
14,615
17,988
51,993
$123,150
$ 17,892
13,583
7,744
12,412
4,409
18,414
7,805
8,782
16,992
$ 31,388
$ 32,691
$ 15,906
$ 43,165
25,138
$ 81,178
At November 30, 2007, $863 million of outstanding long-term bor-
respectively, of certain hybrid financial instruments for which the interest
rowings are repayable at par value prior to maturity at the option of the
rates and/or redemption values are linked to the performance of an
holder.These obligations are reflected in the above table as maturing at their
underlying measure (including industry baskets of stocks, commodities
put dates, which range from fiscal 2009 to fiscal 2022, rather than at their
or credit events). Generally, such notes are issued as floating rate notes or
contractual maturities, which range from fiscal 2013 to fiscal 2031. In addi-
the interest rates on such index notes are effectively converted to floating
tion, $20.2 billion of long-term borrowings are redeemable prior to matu-
rates based primarily on LIBOR through the use of derivatives.
rity at our option under various terms and conditions.These obligations are
reflected in the above table at their contractual maturity dates, which range
END–USER DERIVATIVE ACTIVITIES
We use a variety of derivative products including interest rate and
from fiscal 2009 to fiscal 2054, rather than at their call dates which range
currency swaps as an end-user to modify the interest rate characteristics
from fiscal 2009 to fiscal 2027. Extendible debt structures totaling approxi-
of our long-term borrowings portfolio. We use interest rate swaps to
mately $5.4 billion are shown in the above table at their earliest maturity
convert a substantial portion of our fixed-rate debt to floating interest
dates, which range from fiscal 2009 to fiscal 2013. Extendible debt matures
rates to more closely match the terms of assets being funded and to
on an initial specified maturity date unless the debt holders elect to extend
minimize interest rate risk. In addition, we use cross–currency swaps to
the term of the note for a period specified in the note.
hedge our exposure to foreign currency risk arising from our non–U.S.
Included in long-term borrowings is $5.1 billion of certain hybrid
dollar debt obligations, after consideration of non–U.S. dollar assets that
financial instruments with early redemption features linked to market
are funded with long-term debt obligations in the same currency. In
prices or other triggering events (e.g., the downgrade of a reference obli-
certain instances, we may use two or more derivative contracts to man-
gation underlying a credit–linked note). In the above maturity table, these
age the interest rate nature and/or currency exposure of an individual
notes are shown at their contractual maturity dates.
long-term borrowings issuance.
At November 30, 2007, our U.S. dollar and non–U.S. dollar debt
portfolios included approximately $12.9 billion and $16.9 billion,
End–User Derivative Activities resulted in the following mix of
fixed and floating rate debt:
LONG-TERM BORROWINGS AFTER END–USER DERIVATIVE ACTIVITIES
NOVEMBER 30,
IN MILLIONS
U.S. dollar:
Fixed rate
Floating rate
Total U.S. dollar
Weighted-average effective interest rate
Non–U.S. dollar:
Fixed rate
2007
$ 1,096
81,762
82,858
5.18%
2006
$
942
57,053
57,995
5.60%
269
645
Floating rate
40,023
22,538
Total Non-U.S. dollar
40,292
23,183
Weighted-average effective interest rate
Total
Weighted-average effective interest rate
4.15%
$123,150
4.83%
3.51%
$81,178
5.00%
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
JUNIOR SUBORDINATED NOTES
Junior subordinated notes are notes issued to trusts or limited partner-
of: (i) issuing securities representing ownership interests in the assets of the
ships (collectively, the “Trusts”) and qualify as equity capital by leading rating
of Holdings; and (iii) engaging in activities necessary and incidental thereto.
agencies (subject to limitation).The Trusts were formed for the purposes
The securities issued by the Trusts are comprised of the following:
Trusts; (ii) investing the proceeds of the Trusts in junior subordinated notes
NOVEMBER 30,
IN MILLIONS
2007
2006
Lehman Brothers Holdings Capital Trust III, Series K
$ 300
$ 300
Lehman Brothers Holdings Capital Trust IV, Series L
300
300
Lehman Brothers Holdings Capital Trust V, Series M
400
399
Lehman Brothers Holdings Capital Trust VI, Series N
225
225
1,000
—
500
—
Trust Preferred Securities:
Lehman Brothers Holdings Capital Trust VII
Lehman Brothers Holdings Capital Trust VIII
Euro Perpetual Preferred Securities:
Lehman Brothers U.K. Capital Funding LP
256
231
Lehman Brothers U.K. Capital Funding II LP
369
329
255
296
577
658
Enhanced Capital Advantaged Preferred Securities (ECAPS®):
Lehman Brothers Holdings E-Capital Trust I
Enhanced Capital Advantaged Preferred Securities (Euro ECAPS®):
Lehman Brothers U.K. Capital Funding III L.P.
Lehman Brothers U.K. Capital Funding IV L.P.
295
—
Lehman Brothers U.K. Capital Funding V L.P.
500
—
$4,977
$2,738
The following table summarizes the key terms of Trusts with outstanding securities at November 30, 2007:
TRUST-ISSUED SECURITIES
ISSUANCE
DATE
MANDATORY
REDEMPTION DATE
REDEEMABLE BY ISSUER
ON OR AFTER
Holdings Capital Trust III, Series K
March 2003
March 15, 2052
March 15, 2008
Holdings Capital Trust IV, Series L
October 2003
October 31, 2052
October 31, 2008
Holdings Capital Trust V, Series M
April 2004
April 22, 2053
April 22, 2009
January 2005
January 18, 2054
January 18, 2010
NOVEMBER 30, 2007
Holdings Capital Trust VI, Series N
May 2007
June 1, 2043 (1)
May 2007
June 1, 2043
(1)
March 2005
Perpetual
March 30, 2010
September 2005
Perpetual
September 21, 2009
August 2005
August 19, 2065
August 19, 2010
U.K. Capital Funding III LP
February 2006
February 22, 2036
February 22, 2011
U.K. Capital Funding IV LP
January 2007
Perpetual
April 25, 2012
May 2007
Perpetual
June 1, 2012
Holdings Capital Trust VII
Holdings Capital Trust VIII
U.K. Capital Funding LP
U.K. Capital Funding II LP
Holdings E-Capital Trust I
U.K. Capital Funding V LP
(1)
May 31, 2012
May 31, 2012
Or on such earlier date as we may elect in connection with a remarketing.
The trust preferred securities issued by Holdings Capital Trust
an aggregate redemption value of $1.5 billion. The stock purchase
VII and Holdings Capital Trust VIII were issued together with con-
date is expected to be on or around May 31, 2012, but could occur
tracts to purchase depositary shares representing our Non-Cumulative
on an earlier date or be deferred until as late as May 31, 2013 in
Perpetual Preferred Stock, Series H and Series I, respectively, with
certain circumstances.
107
108
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
CREDIT FACILITIES
We use both committed and uncommitted bilateral and syndicated
(“Bankhaus”) and Lehman Brothers Treasury Co. B.V. which expires in
long-term bank facilities to complement our long-term debt issuance. In
complying with customary lending conditions and covenants. We have
particular, Holdings maintains a $2.0 billion unsecured, committed
maintained compliance with the material covenants under these credit
revolving credit agreement with a syndicate of banks which expires in
agreements at all times. We draw on both of these facilities from time to
February 2009. In addition, we maintain a $2.5 billion multi-currency
time in the normal course of conducting our business. As of November
unsecured, committed revolving credit facility (“European Facility”)
30, 2007, there were no outstanding borrowings against either Holdings’
with a syndicate of banks for Lehman Brothers Bankhaus AG
credit facility or the European Facility.
April 2010. Our ability to borrow under such facilities is conditioned on
NOTE 9 COMMITMENTS, CONTINGENCIES AND GUARANTEES
In the normal course of business, we enter into various commit-
LENDING–RELATED COMMITMENTS
The following table summarizes the contractual amounts of lend-
ments and guarantees, including lending commitments to high grade
and high yield borrowers, private equity investment commitments,
ing-related commitments at November 30, 2007 and 2006:
liquidity commitments and other guarantees.
TOTAL
CONTRACTUAL AMOUNT
EXPIRATION PER PERIOD AT NOVEMBER 30,
IN MILLIONS
NOVEMBER 30,
2007
2006
2008
2009
2010-2011
2012-2013
LATER
High grade
$ 5,579
$1,039
$6,554
$10,411
$ 403
$ 23,986
$17,945
High yield
4,051
411
2,103
4,850
2,658
14,073
7,558
High grade
10,230
—
—
—
—
10,230
1,918
High yield
9,749
—
—
—
—
9,749
12,766
5,082
670
1,378
271
48
7,449
12,162
122,661
455
429
468
1,846
125,859
83,071
Lending commitments
Contingent acquisition facilities
Mortgage commitments
Secured lending transactions
We use various hedging and funding strategies to actively manage
our market, credit and liquidity exposures on these commitments.We do
exposure of $5.9 billion, after consideration of hedges) at November 30,
2007 and 2006, respectively.
not believe total commitments necessarily are indicative of actual risk or
Contingent acquisition facilities We provide contingent commit-
funding requirements because the commitments may not be drawn or
ments to investment and non-investment grade counterparties related to
fully used and such amounts are reported before consideration of hedges.
acquisition financing.We do not believe contingent acquisition commit-
Lending commitments Through our high grade (investment
ments are necessarily indicative of actual risk or funding requirements as
grade) and high yield (non-investment grade) sales, trading and under-
funding is dependent upon both a proposed transaction being completed
writing activities, we make commitments to extend credit in loan syn-
and the acquiror fully utilizing our commitment. Typically, these com-
dication transactions.These commitments and any related drawdowns of
mitments are made to a potential acquiror in a proposed acquisition,
these facilities typically have fixed maturity dates and are contingent on
which may or may not be completed depending on whether the poten-
certain representations, warranties and contractual conditions applicable
tial acquiror to whom we have provided our commitment is successful.
to the borrower. We define high yield exposures as securities of or loans
A contingent borrower’s ability to draw on the commitment is typically
to companies rated BB+ or lower or equivalent ratings by recognized
subject to there being no material adverse change in the borrower’s
credit rating agencies, as well as non-rated securities or loans that, in
financial condition, among other factors, and the commitments also
management’s opinion, are non-investment grade.
generally contain certain flexible pricing features to adjust for changing
We had commitments to high grade borrowers at November 30,
market conditions prior to closing. In addition, acquirers generally uti-
2007 and 2006 of $24.0 billion (net credit exposure of $12.2 billion,
lize multiple financing sources, including other investment and com-
after consideration of hedges) and $17.9 billion (net credit exposure of
mercial banks, as well as accessing the general capital markets for
$4.9 billion, after consideration of hedges), respectively.We had commit-
completing transactions. Therefore, our contingent acquisition commit-
ments to high yield borrowers of $14.1 billion (net credit exposure of
ments are generally greater than the amounts we ultimately expect to
$12.8 billion, after consideration of hedges) and $7.6 billion (net credit
fund. Further, our past practice, consistent with our credit facilitation
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
framework, has been to syndicate acquisition financings to investors.The
gage loans, once originated, primarily through securitizations. The
ultimate timing, amount and pricing of a syndication, however, is influ-
ability to sell or securitize mortgage loans, however, is dependent on
enced by market conditions that may not necessarily be consistent with
market conditions.
those at the time the commitment was entered.We provided contingent
Secured lending transactions In connection with our financing
commitments to high grade counterparties related to acquisition financ-
activities, we had outstanding commitments under certain collateralized
ing of approximately $10.2 billion and $1.9 billion at November 30,
lending arrangements of approximately $9.8 billion and $7.5 billion at
2007 and 2006, respectively, and to high yield counterparties related to
November 30, 2007 and 2006, respectively. These commitments require
acquisition financing of approximately $9.8 billion and $12.8 billion at
borrowers to provide acceptable collateral, as defined in the agreements,
November 30, 2007 and 2006, respectively.
when amounts are drawn under the lending facilities. Advances made
Mortgage commitments Through our mortgage origination
under these lending arrangements typically are at variable interest rates
platforms we make commitments to extend mortgage loans. At
and generally provide for over-collateralization. In addition, at November
November 30, 2007 and 2006, we had outstanding mortgage commit-
30, 2007, we had commitments to enter into forward starting secured
ments of approximately $7.4 billion and $12.2 billion, respectively.
resale and repurchase agreements, primarily secured by government and
These commitments included $3.0 billion and $7.0 billion of residen-
government agency collateral, of $70.8 billion and $45.3 billion, respec-
tial mortgages in 2007 and 2006 and $4.4 billion and $5.2 billion of
tively, compared to $44.4 billion and $31.2 billion, respectively, at
commercial mortgages at 2007 and 2006. Typically, residential mort-
November 30, 2006.
gage loan commitments require us to originate mortgage loans at the
OTHER COMMITMENTS AND GUARANTEES
The following table summarizes other commitments and guaran-
option of a borrower generally within 90 days at fixed interest rates.
Consistent with past practice, our intention is to sell residential mort-
tees at November 30, 2007 and 2006:
TOTAL
CONTRACTUAL AMOUNT
EXPIRATION PER PERIOD AT NOVEMBER 30,
IN MILLIONS
Derivative contracts (1)
Municipal-securities-related commitments
Other commitments with
variable interest entities
Standby letters of credit
Private equity and other
principal investments
(1)
NOVEMBER 30,
2007
2006
2008
2009
2010-2011
2012-2013
LATER
$87,394
$59,598
$152,317
$210,496
$228,132
$737,937
$534,585
2,362
733
86
69
3,652
6,902
1,599
106
3,100
170
963
4,772
9,111
4,902
1,685
5
—
—
—
1,690
2,380
820
675
915
173
—
2,583
1,088
We believe the fair value of these derivative contracts is a more relevant measure of the obligations because we believe the notional amount overstates the expected payout. At November
30, 2007 and 2006, the fair value of these derivatives contracts approximated $36.8 billion and $9.3 billion, respectively.
Derivative contracts
Under FASB Interpretation No. 45,
amounts greatly overstate our expected payout. At November 30, 2007
Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including
and 2006, the fair value of such derivative contracts approximated
Indirect Guarantees of Indebtedness of Others (“FIN 45”), derivative contracts
$36.8 billion and $9.3 billion, respectively. In addition, all amounts
are considered to be guarantees if such contracts require us to make pay-
included above are before consideration of hedging transactions. We
ments to counterparties based on changes in an underlying instrument or
substantially mitigate our risk on these contracts through hedges, using
index (e.g., security prices, interest rates, and currency rates) and include
other derivative contracts and/or cash instruments. We manage risk
written credit default swaps, written put options, written foreign exchange
associated with derivative guarantees consistent with our global risk
and interest rate options. Derivative contracts are not considered guaran-
management policies.
tees if these contracts are cash settled and we cannot determine if the
Municipal-securities-related commitments At November 30,
derivative counterparty held the contracts’ underlying instruments at
2007 and 2006, we had municipal-securities-related commitments of
inception.We have determined these conditions have been met for certain
approximately $6.9 billion and $1.6 billion, respectively, which are prin-
large financial institutions. Accordingly, when these conditions are met, we
cipally comprised of liquidity commitments related to trust certificates
have not included these derivatives in our guarantee disclosures.
backed by high grade municipal securities.We believe our liquidity com-
At November 30, 2007 and 2006, the maximum payout value of
mitments to these trusts involve a low level of risk because our obliga-
derivative contracts deemed to meet the FIN 45 definition of a guar-
tions are supported by high grade securities and generally cease if the
antee was approximately $737.9 billion and $534.6 billion, respectively.
underlying assets are downgraded below investment grade or upon an
For purposes of determining maximum payout, notional values are
issuer’s default. In certain instances, we also provide credit default protec-
used; however, we believe the fair value of these contracts is a more
tion to investors, which approximated $468 million and $48 million at
relevant measure of these obligations because we believe the notional
November 30, 2007 and 2006, respectively.
109
110
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
Other commitments with VIEs We make certain liquidity commitments and guarantees to VIEs. We provided liquidity commitments of
We have established reserves which we believe to be adequate in connection with such representations and warranties.
approximately $1.4 billion and $1.0 billion at November 30, 2007 and
In the normal course of business, we are exposed to credit and
2006, respectively, which represented our maximum exposure to loss, to
market risk as a result of executing, financing and settling various client
commercial paper conduits in support of certain clients’ secured financ-
security and commodity transactions.These risks arise from the potential
ing transactions. However, we believe our actual risk to be limited
that clients or counterparties may fail to satisfy their obligations and the
because these liquidity commitments are supported by over-collateral-
collateral obtained is insufficient. In such instances, we may be required
ization with investment grade collateral.
to purchase or sell financial instruments at unfavorable market prices.We
In addition, we provide limited downside protection guarantees to
investors in certain VIEs by guaranteeing return of their initial principal
seek to control these risks by obtaining margin balances and other collateral in accordance with regulatory and internal guidelines.
investment. Our maximum exposure to loss under such commitments was
Certain of our subsidiaries, as general partners, are contingently liable
approximately $6.1 billion and $3.9 billion at November 30, 2007 and
for the obligations of certain public and private limited partnerships. In our
2006, respectively. We believe our actual risk to be limited because our
opinion, contingent liabilities, if any, for the obligations of such partnerships
obligations are collateralized by the VIEs’ assets and contain significant
will not, in the aggregate, have a material adverse effect on our Consolidated
constraints under which downside protection will be available (e.g., the VIE
Statement of Financial Condition or Consolidated Statement of Income.
is required to liquidate assets in the event certain loss levels are triggered).
In connection with certain acquisitions and strategic investments, we
We participate in an A-1/P-1-rated multi-seller conduit. This
agreed to pay additional consideration contingent on the acquired entity
multi-seller issues secured liquidity notes to provide financing. Our
meeting or exceeding specified income, revenue or other performance
intention is to utilize this conduit for purposes of funding a portion of
thresholds.These payments will be recorded as amounts become determin-
our contingent acquisition commitments. At November 30, 2007, we
able. Had the determination dates been November 30, 2007 and 2006, our
were contingently committed to provide $1.6 billion of liquidity if the
estimated obligations related to these contingent consideration arrange-
conduit is unable to remarket the secured liquidity notes upon their
ments would have been $420 million and $224 million, respectively.
maturity, generally, one year after a failed remarketing event.This conduit
is not consolidated in Holdings’ results of operations.
INCOME TAXES
We are under continuous examination by the Internal Revenue
Standby letters of credit At November 30, 2007 and 2006,
Service (the “IRS”), and other tax authorities in major operating juris-
respectively, we had commitments under letters of credit issued by banks
dictions such as the United Kingdom and Japan, and in various states in
to counterparties for $1.7 billion and $2.4 billion. We are contingently
which the Company has significant operations, such as New York. The
liable for these letters of credit which are primarily used to provide col-
Company regularly assesses the likelihood of additional assessments in each
lateral for securities and commodities borrowed and to satisfy margin
tax jurisdiction and the impact on the Consolidated Financial Statements.
deposits at option and commodity exchanges.
Tax reserves have been established, which we believe to be adequate
Private equity and other principal investments At November 30,
with regards to the potential for additional exposure. Once established,
2007 and 2006, we had private equity and other principal investment
reserves are adjusted only when additional information is obtained or an
commitments of approximately $2.6 billion and $1.1 billion, respectively,
event requiring a change to the reserve occurs. Management believes the
comprising commitments to private equity partnerships and other prin-
resolution of these uncertain tax positions will not have a material
cipal investment opportunities. It has been our past practice to distribute
impact on the financial condition of the Company; however resolution
and syndicate certain of these commitments to our investing clients.
could have an impact on our effective tax rate in any reporting period.
Other In the normal course of business, we provide guarantees to
We have completed the appeals process with respect to the 1997
securities clearinghouses and exchanges. These guarantees generally are
through 2000 IRS examination. Although most issues were settled on a
required under the standard membership agreements, such that members
basis acceptable to us, two issues remain unresolved and will carry into
are required to guarantee the performance of other members. To miti-
litigation with the IRS. Based on the strength of its positions, we have
gate these performance risks, the exchanges and clearinghouses often
not reserved any part of these issues.The aggregate tax benefits previously
require members to post collateral.
recorded with regard to these two issues is approximately $185 million.
In connection with certain asset sales and securitization transac-
The IRS has recently begun an examination with respect to our
tions, we often make customary representations and warranties about the
2001 through 2005 tax years. The audit is in its initial stages and no
assets. Violations of these representations and warranties, such as early
adjustments have been proposed. We believe we are adequately reserved
payment defaults by borrowers, may require us to repurchase loans previ-
for any issues that may arise from this audit. The two issues from the
ously sold, or indemnify the purchaser against any losses. To mitigate
1997 through 2000 cycle which we plan to litigate also have an impact
these risks, to the extent the assets being securitized may have been
on the 2001 through 2005 tax years.The aggregate tax benefit previously
originated by third parties, we generally obtain equivalent representa-
recorded with regard to these two issues is approximately $500 million.
tions and warranties from these third parties when we acquire the assets.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
LITIGATION
In the normal course of business, we have been named as a
on information currently available, we believe the amount, or range,
defendant in a number of lawsuits and other legal and regulatory
material to the Company’s Consolidated Financial Condition or Cash
proceedings. Such proceedings include actions brought against us and
Flows. However, losses may be material to our operating results for
others with respect to transactions in which we acted as an under-
any particular future period, depending on the level of income for
writer or financial advisor, actions arising out of our activities as a
such period.
broker or dealer in securities and commodities and actions brought
of reasonably possible losses in excess of established reserves not to be
on behalf of various classes of claimants against many securities firms,
LEASE COMMITMENTS
Total rent expense for 2007, 2006 and 2005 was $250 million, $181
including us. We provide for potential losses that may arise out of legal
million and $167 million, respectively. Certain leases on office space
and regulatory proceedings to the extent such losses are probable and
contain escalation clauses providing for additional payments based on
can be estimated. Although there can be no assurance as to the ulti-
maintenance, utility and tax increases.
mate outcome, we generally have denied, or believe we have a meri-
Minimum future rental commitments under non-cancelable
torious defense and will deny, liability in all significant cases pending
operating leases (net of subleases of approximately $325 million) and
against us, and we intend to defend vigorously each such case. Based
future commitments under capital leases are as follows:
MINIMUM FUTURE RENTAL COMMITMENTS UNDER OPERATING AND CAPITAL LEASE AGREEMENTS
IN MILLIONS
OPERATING
LEASES
Fiscal 2008
$ 281
Fiscal 2009
269
99
Fiscal 2010
251
101
Fiscal 2011
242
105
Fiscal 2012
227
108
1,335
2,489
$2,605
$2,976
December 1, 2012 and thereafter
Total minimum lease payments
Less: Amount representing interest
CAPITAL
LEASES
$
74
1,534
Present value of future minimum capital lease payments
$1,442
NOTE 10 STOCKHOLDERS’ EQUITY
On April 5, 2006, our Board of Directors approved a 2-for-1 common stock split, in the form of a stock dividend that was effected on
stock has a dividend preference over Holdings’ common stock in the
paying of dividends and a preference in the liquidation of assets.
April 28, 2006. Prior period share and earnings per share amounts have
On March 28, 2000, Holdings issued 5,000,000 Depositary Shares,
been restated to reflect the split. The par value of the common stock
each representing 1/100th of a share of Fixed/Adjustable Rate
remained at $0.10 per share. Accordingly, an adjustment from Additional
Cumulative Preferred Stock, Series E (“Series E Preferred Stock”), $1.00
paid-in capital to Common stock was required to preserve the par value
par value. The initial cumulative dividend rate on the Series E Preferred
of the post-split shares.
Stock was 7.115% per annum through May 31, 2005. On May 31, 2005,
PREFERRED STOCK
Holdings is authorized to issue a total of 24,999,000 shares of preferred stock. At November 30, 2007, Holdings had 798,000 shares issued
and outstanding under various series as described below. All preferred
SERIES
DEPOSITARY
SHARES
SHARES ISSUED AND
OUTSTANDING
(1)
Holdings redeemed all of its issued and outstanding shares of Series E
Preferred Stock, together with accumulated and unpaid dividends.
The following table summarizes our outstanding preferred stock at
November 30, 2007:
DIVIDEND
RATE
EARLIEST REDEMPTION
DATE
REDEMPTION
VALUE
C
5,000,000
500,000
5.94%
May 31, 2008
250,000,000
D
4,000,000
40,000
5.67%
August 31, 2008
200,000,000
F
13,800,000
138,000
6.50%
August 31, 2008
345,000,000
G
12,000,000
120,000
February 15, 2009
300,000,000
Subject to a floor of 3.0% per annum.
one-month LIBOR + 0.75% (1)
111
112
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
The Series C, D, F and G Preferred Stock rank equally as to dividends and upon liquidation, dissolution or winding up and have no voting
COMMON STOCK
Dividends declared per common share were $0.60, $0.48 and $0.40 in
rights except as provided below or as otherwise from time to time required
2007, 2006 and 2005, respectively. During the years ended November 30,
by law. If dividends payable on any of the Series C, D, F or G Preferred
2007, 2006 and 2005, we repurchased or acquired, pursuant to our stock
Stock or on any other equally-ranked series of preferred stock have not
repurchase program, shares of our common stock at an aggregate cost of
been paid for six or more quarters, whether or not consecutive, the autho-
approximately $3.2 billion, $3.7 billion and $4.2 billion, respectively, or $73.85,
rized number of directors of the Company will automatically be increased
$69.61, and $51.59 per share, respectively. These shares were acquired in the
by two. The holders of the Series C, D, F or G Preferred Stock will have
open market and from employees who tendered mature shares to pay for the
the right, with holders of any other equally-ranked series of preferred
exercise cost of stock options or for statutory tax withholding obligations on
stock that have similar voting rights and on which dividends likewise have
restricted stock unit (“RSU”) issuances or option exercises. For additional
not been paid, voting together as a class, to elect two directors to fill such
information, see Note 12, “Share-Based Employee Incentive Plans—Stock
newly created directorships until the dividends in arrears are paid.
Repurchase Program,” to the Consolidated Financial Statements.
Changes in the number of shares of common stock outstanding are as follows:
YEAR ENDED NOVEMBER 30,
2007
Shares outstanding, beginning of period
Exercise of stock options and other share issuances
Shares issued to the RSU Trust
Treasury stock acquisitions
Shares outstanding, end of period
533,368,195
17,056,454
24,500,000
(43,037,230)
531,887,419
2006
2005
542,874,206
22,374,748
21,000,000
(52,880,759)
533,368,195
548,318,822
53,142,714
22,000,000
(80,587,330)
542,874,206
In 1997, we established an irrevocable grantor trust (the “RSU
RSU Trust with a total value of approximately $2.3 billion. These shares
Trust”) to provide common stock voting rights to employees who hold
are valued at weighted-average grant prices. Shares transferred to the
outstanding RSUs and to encourage employees to think and act like
RSU Trust do not affect the total number of shares used in the calcula-
owners. In 2007, 2006 and 2005, we transferred 24.5 million, 21.0 mil-
tion of basic and diluted earnings per share because we include amor-
lion and 22.0 million treasury shares, respectively, into the RSU Trust. At
tized RSUs in the calculations. Accordingly, the RSU Trust has no effect
November 30, 2007, approximately 72.5 million shares were held in the
on total equity, net income, book value per share or earnings per share.
NOTE 11 EARNINGS PER COMMON SHARE
EARNINGS PER COMMON SHARE
NOVEMBER 30,
IN MILLIONS, EXCEPT PER SHARE DATA
2007
2006
2005
$4,192
67
$4,125
$4,007
66
$3,941
$3,260
69
$3,191
540.6
543.0
556.3
23.6
4.1
29.1
6.3
25.4
5.5
27.7
35.4
30.9
NUMERATOR:
Net income
Less: Preferred stock dividends
Numerator for basic earnings per share—net income applicable to common stock
DENOMINATOR:
Denominator for basic earnings per share—weighted-average common shares
Effect of dilutive securities:
Employee stock options
Restricted stock units
Dilutive potential common shares
Denominator for diluted earnings per share—weighted-average
common and dilutive potential common shares (1)
Basic earnings per common share
Diluted earnings per common share
(1)
Anti-dilutive options and restricted stock units excluded from the calculations of diluted earnings per share
On April 5, 2006, our Board of Directors approved a 2-for-1 common stock split, in the form of a stock dividend that was effected on
568.3
578.4
587.2
$ 7.63
$ 7.26
$ 7.26
$ 6.81
$ 5.74
$ 5.43
13.7
4.4
8.7
April 28, 2006. See Note 10, “Stockholders’ Equity,” for additional
information about the stock split.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
NOTE 12 SHARE-BASED EMPLOYEE INCENTIVE PLANS
We adopted the fair value recognition provisions for share-based
stockholders of Holdings at its 2007 Annual Meeting), plus (ii) the 33.5
awards pursuant to SFAS 123(R) effective as of the beginning of the
million shares authorized for issuance under the 1996 Plan and the EIP
2006 fiscal year. For a further discussion, see Note 1, “Summary of
that remained unawarded upon their expiration, plus (iii) any shares
Significant Accounting Policies—Accounting and Regulatory
subject to repurchase or forfeiture rights under the 1996 Plan, the EIP
Developments,” to the Consolidated Financial Statements.
or the SIP that are reacquired by the Company, or the award of which
We sponsor several share-based employee incentive plans.
is canceled, terminates, expires or for any other reason is not payable,
Amortization of compensation costs for grants awarded under these
plus (iv) any shares withheld or delivered pursuant to the terms of the
plans was approximately $1.3 billion, $1.0 billion and $1.1 billion
SIP in payment of any applicable exercise price or tax withholding
during 2007, 2006 and 2005, respectively. The total income tax ben-
obligation. Awards with respect to 51.1 million shares of common stock
efit recognized in the Consolidated Statement of Income for these
have been made under the SIP as of November 30, 2007, 50.4 million
plans was $515 million, $421 million and $457 million for 2007, 2006
of which are outstanding.
and 2005, respectively. Not included in the $1.3 billion of 2007
1999 Long-Term Incentive Plan The 1999 Neuberger Berman
amortization expense is $514 million of stock awards granted in
Inc. Long-Term Incentive Plan (the “LTIP”) provides for the grant of
December 2007, which were accrued as compensation expense in
restricted stock, restricted units, incentive stock, incentive units, deferred
fiscal 2007.
shares, supplemental units and stock options. The total number of shares
At November 30, 2007, unrecognized compensation cost related
of common stock that may be issued under the LTIP is 15.4 million. At
to non-vested stock option and RSU awards totaled $2.0 billion. The
November 30, 2007, awards with respect to approximately 13.7 million
cost of these non-vested awards is expected to be recognized over the
shares of common stock had been made under the LTIP, of which 3.2
next 9.0 years over a weighted-average period of 3.8 years.
million were outstanding.
Below is a description of our share-based employee incentive
compensation plans.
RESTRICTED STOCK UNITS
Eligible employees receive RSUs, in lieu of cash, as a portion of
SHARE-BASED EMPLOYEE INCENTIVE PLANS
We sponsor several share-based employee incentive plans. The total
their total compensation.There is no further cost to employees associated
number of shares of common stock remaining available for future awards
convert to unrestricted freely transferable common stock five years from
under these plans at November 30, 2007, was 82.3 million (not including
the grant date. All or a portion of an award may be canceled if employ-
shares that may be returned to the Stock Incentive Plan (the “SIP”) as
ment is terminated before the end of the relevant vesting period. We
described below, but including an additional 0.4 million shares autho-
accrue dividend equivalents on outstanding RSUs (in the form of addi-
rized for issuance under the Lehman Brothers Holdings Inc. 1994
tional RSUs), based on dividends declared on our common stock.
with RSU awards. RSU awards generally vest over two to five years and
Management Ownership Plan (the “1994 Plan”) that have been reserved
For RSUs granted prior to 2004, we measured compensation cost
solely for issuance in respect of dividends on outstanding awards under
based on the market value of our common stock at the grant date in
this plan). In connection with awards made under our share-based
accordance with APB Opinion No. 25, Accounting for Stock Issued to
employee incentive plans, we are authorized to issue shares of common
Employees, and, accordingly, a discount from the market price of an unre-
stock held in treasury or newly-issued shares.
stricted share of common stock on the RSU grant date was not recog-
1994 and 1996 Management Ownership Plans and Employee
nized for selling restrictions subsequent to the vesting date. For awards
Incentive Plan The 1994 Plan, the Lehman Brothers Holdings Inc. 1996
granted beginning in 2004, we measure compensation cost based on the
Management Ownership Plan (the “1996 Plan”) and the Lehman
market price of our common stock at the grant date less a discount for
Brothers Holdings Inc. Employee Incentive Plan (the “EIP”) all expired
sale restrictions subsequent to the vesting date in accordance with SFAS
following the completion of their various terms.These plans provided for
123 and SFAS 123(R). The fair value of RSUs subject to post-vesting
the issuance of RSUs, performance stock units, stock options and other
date sale restrictions are generally discounted by three to eight percent for
share-based awards to eligible employees. At November 30, 2007, awards
each year based upon the duration of the post-vesting restriction. These
with respect to 605.6 million shares of common stock have been made
discounts are based on market-based studies and academic research on
under these plans, of which 130.3 million are outstanding and 475.3 mil-
securities with restrictive features. RSUs granted in each of the periods
lion have been converted to freely transferable common stock.
presented contain selling restrictions subsequent to a vesting date.
Stock Incentive Plan The SIP has a 10-year term ending in May
The fair value of RSUs converted to common stock without
2015, with provisions similar to the previous plans. The SIP authorized
restrictions for the year ended November 30, 2007 was $1.2 billion.
the issuance of up to the total of (i) 95.0 million shares (20.0 million as
Compensation costs previously recognized and tax benefits recognized in
originally authorized, plus an additional 75.0 million authorized by the
equity upon issuance of these awards were approximately $760 million.
113
114
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
The following table summarizes RSU activity for 2007 and 2006:
Balance, November 30, 2005
WEIGHTED AVERAGE
GRANT DATE
FAIR VALUE
UNAMORTIZED
AMORTIZED
TOTAL NUMBER
OF RSUs
48,116,384
72,301,290
120,417,674
$38.35
71.41
Granted
8,251,700
—
8,251,700
Canceled
(2,244,585)
(72,424)
(2,317,009)
43.81
—
(25,904,367)
(25,904,367)
28.93
(19,218,999)
19,218,999
—
Balance, November 30, 2006
34,904,500
65,543,498
100,447,998
$43.37
Granted
38,839,114
—
38,839,114
68.92
Canceled
(4,720,625)
Exchanged for stock without restrictions
Amortization
Exchanged for stock without restrictions
Amortization
Balance, November 30, 2007
—
1,079,269
(3,641,356)
51.27
(17,716,614)
(17,716,614)
31.51
(34,166,465)
34,166,465
—
34,856,524
83,072,618
117,929,142
$53.33
The above table excludes approximately 49.7 million RSUs which
Also included in the previous table are PSUs for which the number
were granted to employees on December 7, 2007, including approxi-
of RSUs to be earned was dependent on achieving certain performance
mately 11.3 million RSUs awarded to retirement eligible employees and
levels within predetermined performance periods. During the perfor-
expensed in fiscal 2007 and approximately 38.4 million RSUs awarded
mance period, these PSUs were accounted for as variable awards. At the
to employees and subject to future vesting provisions.
end of the performance period, any PSUs earned converted one-for-one
Of the approximately 117.9 million RSUs outstanding at November
to RSUs that then vest in three or more years. At November 30, 2006,
30, 2007, approximately 83.1 million were amortized and included in
all performance periods have been completed and any PSUs earned have
basic earnings per share. Approximately 16.5 million of RSUs outstand-
been converted into RSUs. The compensation cost for the RSUs pay-
ing at November 30, 2007 will be amortized during 2008, and the
able in satisfaction of PSUs is accrued over the combined performance
remainder will be amortized subsequent to 2008.
and vesting periods.
The above table includes approximately 5.8 million RSUs awarded
to certain senior officers, the terms of which were modified in 2006 (the
STOCK OPTIONS
Employees and Directors may receive stock options, in lieu of cash,
“Modified RSUs”).The original RSUs resulted from performance stock
as a portion of their total compensation. Such options generally become
units (“PSUs”) for which the performance periods have expired, but
exercisable over a one- to five-year period and generally expire five- to
which were not previously converted into RSUs as their vesting was
ten years from the date of grant, subject to accelerated expiration upon
contingent upon a change in control of the Company or certain other
termination of employment.
specified circumstances as determined by the Compensation and
We use the Black-Scholes option-pricing model to measure the
Benefits Committee of the Board of Directors (the “CIC RSUs”). On
grant date fair value of stock options granted to employees. Stock options
November 30, 2006, with the approval of the Compensation and
granted have exercise prices equal to the market price of our common
Benefits Committee, each executive agreed to a modification of the
stock on the grant date. The principal assumptions utilized in valuing
vesting terms of the CIC RSUs to eliminate the change in control pro-
options and our methodology for estimating such model inputs include:
visions and to provide for vesting in ten equal annual installments from
(i) risk-free interest rate - estimate is based on the yield of U.S. zero cou-
2007 to 2016, provided the executive continues to be an employee on
pon securities with a maturity equal to the expected life of the option;
the vesting date of the respective installment. Vested installments will
(ii) expected volatility - estimate is based on the historical volatility of our
remain subject to forfeiture for detrimental behavior for an additional
common stock for the three years preceding the award date, the implied
two years, after which time they will convert to common stock on a
volatility of market-traded options on our common stock on the grant
one-for-one basis and be issued to the executive. The Modified RSUs
date and other factors; and (iii) expected option life - estimate is based on
will vest (and convert to common stock and be issued) earlier only upon
internal studies of historical and projected exercise behavior based on
death, disability or certain government service approved by the
different employee groups and specific option characteristics, including
Compensation and Benefits Committee. Dividends will be payable by
the effect of employee terminations. Based on the results of the model,
the Corporation on the Modified RSUs from the date of their modifi-
the weighted-average fair value of stock options granted were $24.94,
cation and will be reinvested in additional RSUs with the same terms.
$15.83 and $13.24 for 2007, 2006 and 2005, respectively. The weightedaverage assumptions used for 2007, 2006 and 2005 were as follows:
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
WEIGHTED AVERAGE BLACK-SCHOLES ASSUMPTIONS
YEAR ENDED NOVEMBER 30,
2007
Risk-free interest rate
2006
2005
4.72%
4.49%
3.97%
Expected volatility
25.12%
23.08%
23.73%
Annual dividends per share
$0.60
$0.48
$0.40
7.0 years
4.5 years
3.9 years
Expected life
The valuation technique takes into account the specific terms and conditions of the stock options granted including vesting period, termination
provisions, intrinsic value and time dependent exercise behavior.
The following table summarizes stock option activity for 2007 and 2006:
STOCK OPTION ACTIVITY
Balance, November 30, 2005
OPTIONS
WEIGHTED-AVERAGE
EXERCISE PRICE
EXPIRATION
DATES
12/05—11/15
101,750,326
$31.36
Granted
2,670,400
66.14
Exercised
(22,453,729)
28.38
Canceled
(570,626)
31.63
81,396,371
$33.32
10,200
72.07
Balance, November 30, 2006
Granted
Exercised
(15,429,250)
Canceled
(371,778)
28.86
31.64
65,605,543
Balance, November 30, 2007
The total intrinsic value of stock options exercised in 2007 was
approximately $711 million for which compensation costs previously
recognized and tax benefits recognized in equity upon issuance totaled
12/06—05/16
$34.39
01/08—04/17
approximately $238 million. Cash received from the exercise of stock
options in 2007 totaled approximately $443 million.
The table below provides additional information related to stock
options outstanding:
OUTSTANDING AT NOVEMBER 30,
2007
Number of options
65,605,543
2006
2005
81,396,371 101,750,326
OPTIONS EXERCISABLE AT NOVEMBER 30,
2007
2006
2005
51,748,377 54,561,355
52,638,434
Weighted-average exercise price
$34.39
$33.32
$31.36
$30.24
$30.12
$27.65
Aggregate intrinsic value (in millions)
$1,867
$3,284
$3,222
$1,676
$2,376
$1,861
4.00
4.84
5.46
3.70
4.25
4.58
Weighted-average remaining
contractual terms in years
At November 30, 2007, the number of options outstanding, net of
projected forfeitures, was approximately 65 million shares, with a weightedaverage exercise price of $34.19, aggregate intrinsic value of approximately
tax benefits expected to be recognized in equity, upon issuance, are
approximately $508 million.
$1.8 billion, and weighted-average remaining contractual terms of 3.97 years.
RESTRICTED STOCK
In addition to RSUs, we also continue to issue restricted stock to
At November 30, 2007, the intrinsic value of unexercised vested
certain Neuberger employees under the LTIP. The following table sum-
options was approximately $1.7 billion for which compensation cost and
Balance, beginning of year
Granted
Canceled
Exchanged for stock without restrictions
Balance, end of year
marizes restricted stock activity for 2007, 2006 and 2005:
2007
2006
2005
671,956
1,042,376
1,541,692
—
43,520
15,534
(4,444)
(6,430)
(37,446)
(311,892)
(407,510)
(477,404)
355,620
671,956
1,042,376
115
116
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
At November 30, 2007, there were 355,620 shares of restricted
superseded the stock repurchase program authorized in 2006. During
stock outstanding.The fair value of the 311,892 shares of restricted stock
2007, we repurchased approximately 34.6 million shares of our common
that became freely tradable in 2007 was approximately $23 million.
stock through open-market purchases at an aggregate cost of approxi-
STOCK REPURCHASE PROGRAM
We maintain a common stock repurchase program to manage our
mately $2.6 billion, or $75.40 per share. In addition, we withheld
equity capital. Our stock repurchase program is effected through open-
equivalent cost of approximately $573 million. At November 30, 2007,
market purchases, as well as through employee transactions where
approximately 57 million shares remained available for repurchase under
employees tender shares of common stock to pay for the exercise price
this authorization.
approximately 8.5 million shares of common stock from employees at an
of stock options and the required tax withholding obligations upon
In January 2008, our Board of Directors authorized the repurchase,
option exercises and conversion of RSUs to freely-tradable common
subject to market conditions, of up to 100 million shares of Holdings’
stock. In January 2007, our Board of Directors authorized the repurchase,
common stock for the management of the Firm’s equity capital, includ-
subject to market conditions, of up to 100 million shares of Holdings’
ing consideration of dilution due to employee stock awards. This resolu-
common stock for the management of our equity capital, including
tion supersedes the stock repurchase program authorized in 2007.
offsetting dilution due to employee stock awards. This authorization
NOTE 13 EMPLOYEE BENEFIT PLANS
We provide both funded and unfunded noncontributory defined
plans, the benefit obligation is the projected benefit obligation. For other
benefit pension plans for the majority of our employees worldwide. In
postretirement plans, the benefit obligation is the accumulated postre-
addition, we provide certain other postretirement benefits, primarily
tirement obligation. Upon adoption, SFAS 158 requires an employer to
health care and life insurance, to eligible employees.We use a November
recognize previously unrecognized actuarial gains and losses and prior
30 measurement date for our plans.
service costs within Accumulated other comprehensive income/(loss)
In September 2006, the FASB issued SFAS 158, which requires an
employer to recognize the over- or under-funded status of its defined
(net of tax), a component of Stockholders’ equity.We adopted this provision of SFAS 158 for the year ended November 30, 2007.
benefit postretirement plans as an asset or liability in its Consolidated
The following table illustrates the incremental effect of the applica-
Statement of Financial Condition, measured as the difference between
tion of SFAS 158 on the Consolidated Statement of Financial Condition
the fair value of the plan assets and the benefit obligation. For pension
at November 30, 2007:
IN MILLIONS
Prepaid pension cost
Deferred tax assets
Total Assets
Liability for pension and postretirement benefits
Deferred tax liabilities
Total Liabilities
Accumulated other comprehensive income/(loss)
Total Stockholders’ Equity
The minimum pension liability of $24 million was eliminated
with the adoption of SFAS 158.
The following table provides a summary of the changes in the
plans’ benefit obligations, fair value of plan assets, and funded status and
BEFORE APPLICATION
OF SFAS 158
$
SFAS 158
ADOPTION ADJUSTMENTS
AFTER APPLICATION
OF SFAS 158
662
$ (351)
3,183
137
$
3,320
311
691,277
(214)
691,063
123
(7)
116
1,008
3
1,011
668,577
(4)
668,573
(100)
(210)
(310)
$ (210)
$ 22,490
$ 22,700
amounts recognized in the Consolidated Statement of Financial
Condition for our U.S. and non-U.S. defined benefit pension and
postretirement benefit plans:
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
DEFINED BENEFIT PLANS
OTHER
POSTRETIREMENT
BENEFITS
2007
2006
PENSION BENEFITS
IN MILLIONS
NOVEMBER 30,
U.S.
NON–U.S.
2007
2006
2007
2006
CHANGE IN BENEFIT OBLIGATION
$1,168
$1,017
$514
$399
$61
$ 60
Service cost
Benefit obligation at beginning of year
54
47
7
8
1
1
Interest cost
67
61
26
20
3
3
Plan amendments and curtailments
(3)
3
(11)
—
—
—
(177)
69
(71)
37
(6)
2
(32)
(29)
(9)
(7)
(6)
(5)
Actuarial loss/(gain)
Benefits paid
Foreign currency exchange rate changes
Benefit obligation at end of year
—
—
28
57
—
—
1,077
1,168
484
514
53
61
CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning of year
1,147
1,030
494
378
—
—
Actual return on plan assets, net of expenses
94
96
28
43
—
—
Employer contribution
—
50
48
26
6
5
(32)
(29)
(12)
(6)
(6)
(5)
—
—
30
53
—
—
1,209
1,147
588
494
—
—
132
(21)
104
(20)
(53)
(61)
Benefits paid
Foreign currency exchange rate changes
Fair value of plan assets at end of year
Funded/(underfunded) status (1)
Unrecognized net actuarial loss/(gain) (1)
Unrecognized prior service cost/(benefit) (1)
Prepaid/(accrued) benefit cost (1)
Accumulated benefit obligation—funded plans
Accumulated benefit obligation—unfunded plans
(1)
455
161
(9)
30
1
(1)
$142
$(71)
$ 464
$ 947
$1,020
$457
$490
63
76
12
—
In accordance with SFAS 158, the funded/(underfunded) status was recognized in the Consolidated Statement of Financial Condition at November 30, 2007 and Unrecognized net
actuarial gain/(loss) and Unrecognized prior service cost/(benefit) was recognized in the Consolidated Statement of Stockholders’ Equity at November 30, 2007.
WEIGHTED-AVERAGE ASSUMPTIONS USED TO DETERMINE BENEFIT OBLIGATIONS
2006
OTHER
POSTRETIREMENT
BENEFITS
2007
2006
6.45%
PENSION BENEFITS
U.S.
NOVEMBER 30,
2007
NON-U.S.
2006
2007
Discount rate
6.66%
5.73%
5.00%
4.82%
Rate of compensation increase
5.00%
5.00%
4.60%
4.30%
The following table presents the pre-tax net actuarial loss/
5.70%
comprehensive income/(loss) at November 30, 2007:
(gain) prior service cost/(benefit) recognized in accumulated other
PENSION BENEFITS
U.S.
NON-U.S.
Net actuarial loss/(gain)
Prior Service cost/(benefit)
Total
The following table presents the estimated pre-tax net actuarial
loss/(gain) and estimated prior service costs/(credits) that will be
amortized from accumulated other comprehensive income/(loss) into
$238
$ 94
OTHER
POSTRETIREMENT
BENEFITS
$ (16)
27
—
(1)
$265
$ 94
$ (17)
net periodic cost/(income) and recorded into the Consolidated
Statement of Income in fiscal 2008:
117
118
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
IN MILLIONS
PENSION BENEFITS
U.S.
NON-U.S.
OTHER POSTRETIREMENT
BENEFITS
Net actuarial loss/(gain)
$10
$ 4
$ (1)
Prior Service cost/(benefit)
$ 4
$—
$ (1)
COMPONENTS OF NET PERIODIC COST
PENSION BENEFITS
IN MILLIONS
NOVEMBER 30,
Service cost
Interest cost
Expected return on plan assets
2007
U.S. PENSIONS
2006
2005
$57
$49
$42
67
61
2007
POSTRETIREMENT
BENEFITS
2006
2005
$ 1
$ 2
$ 2
19
4
3
3
2007
NON-U.S.
2006
2005
$ 7
$ 8
$ 7
56
26
20
(86)
(76)
(74)
(37)
(26)
(24)
—
—
—
Amortization of net actuarial loss
26
30
33
11
10
11
—
—
—
Amortization of prior service cost
4
4
3
—
1
1
(1)
(1)
(1)
$68
$68
$60
$ 7
$13
$14
$ 4
$ 4
Net periodic cost
$ 4
WEIGHTED-AVERAGE ASSUMPTIONS USED TO DETERMINE NET PERIODIC COST FOR THE YEARS ENDED NOVEMBER 30,
PENSION BENEFITS
2007
U.S. PENSIONS
2006
NON-U.S.
2006
POSTRETIREMENT
BENEFITS
2006
2005
2007
2005
2007
Discount rate
5.73%
5.98%
5.90%
5.00%
4.82%
4.80%
5.70%
Expected return on plan assets
7.50%
7.50%
8.50%
7.50%
6.57%
6.96%
Rate of compensation increase
5.00%
5.00%
5.00%
4.60%
4.30%
4.30%
5.70%
2005
5.90%
RETURN ON PLAN ASSETS
U.S. and non–U.S. Plans Establishing the expected rate of return
PLAN ASSETS
Pension plan assets are invested with the objective of meeting current
on pension assets requires judgment. We consider the following factors
and future benefit payment needs, while minimizing future contributions.
in determining these assumptions:
■
■
■
The types of investment classes in which pension plan assets are
U.S. plans Plan assets are invested with several investment managers.
Assets are diversified among U.S. and international equity securities, U.S.
invested and the expected compounded return we can reasonably
fixed income securities, real estate and cash.The plan employs a mix of active
expect the portfolio to earn over appropriate time periods. The
and passive investment management programs. The strategic target of plan
expected return reflects forward-looking economic assumptions.
asset allocation is approximately 65% equities and 35% U.S. fixed income.
The investment returns we can reasonably expect our active invest-
The investment sub-committee of our pension committee reviews the asset
ment management program to achieve in excess of the returns
allocation quarterly and, with the approval of the pension committee, deter-
expected if investments were made strictly in indexed funds.
mines when and how to rebalance the portfolio.The plan does not have a
Investment related expenses.
dedicated allocation to Lehman Brothers common stock, although the plan
We review the expected long-term rate of return annually and
may hold a minimal investment in Lehman Brothers common stock as
revise it as appropriate. Also, we periodically commission detailed asset/
a result of investment decisions made by various investment managers.
liability studies to be performed by third-party professional investment
Non–U.S. plans Non–U.S. pension plan assets are invested with
advisors and actuaries.These studies project stated future returns on plan
several investment managers across a range of different asset classes. The
assets. The studies performed in the past support the reasonableness of
strategic target of plan asset allocation is approximately 75% equities,
our assumptions based on the targeted allocation investment classes and
20% fixed income and 5% real estate.
market conditions at the time the assumptions were established.
Weighted-average plan asset allocations were as follows:
U.S. PLANS
NOV 30, 2007
NON–U.S. PLANS
NOV 30, 2006
NOV 30, 2007
NOV 30, 2006
Equity securities
76%
72%
69%
72%
Fixed income securities
24
23
14
14
Real estate
—
—
4
5
Cash
—
5
13
9
100%
100%
100%
100%
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
EXPECTED CONTRIBUTIONS FOR THE FISCAL YEAR ENDING NOVEMBER 30, 2008
We do not expect it to be necessary to contribute to our U.S. pension plans in the fiscal year ending November 30, 2008. We expect to contribute approximately $8 million to our non–U.S. pension plans in the fiscal year ending November 30, 2008.
ESTIMATED FUTURE BENEFIT PAYMENTS
The following benefit payments, which reflect expected future service, as appropriate, are expected to be paid:
PENSION
IN MILLIONS
U.S.
NON-U.S.
POSTRETIREMENT
Fiscal 2008
$ 37
$ 7
$ 6
Fiscal 2009
41
7
5
Fiscal 2010
43
7
5
Fiscal 2011
46
7
5
Fiscal 2012
51
8
5
308
42
24
Fiscal 2013—2017
POSTRETIREMENT BENEFITS
Assumed health care cost trend rates were as follows:
NOVEMBER 30,
2007
Health care cost trend rate assumed for next year
9%
Rate to which the cost trend rate is assumed to decline (the ultimate trend rate)
5%
Year the rate reaches the ultimate trend rate
2012
2006
9%
5%
2011
A one-percentage-point change in assumed health care cost trend rates would be immaterial to our other postretirement plans.
N O T E 1 4 I N C O M E TA X E S
We file a consolidated U.S. federal income tax return reflecting the income of Holdings and its subsidiaries. The provision for income taxes
consists of the following:
PROVISION FOR INCOME TAXES
NOVEMBER 30,
IN MILLIONS
2007
2006
2005
$ 121
$1,024
$1,037
50
91
265
1,232
890
769
1,403
2,005
2,071
405
(80)
(634)
23
(22)
(59)
Current:
Federal
State
Foreign
Deferred:
Federal
State
Foreign
Provision for income taxes
(10)
42
191
418
(60)
(502)
$1,821
$1,945
$1,569
Income before taxes included $6.8 billion, $2.7 billion and $1.9 billion that also were subject to income taxes of foreign jurisdictions for 2007,
2006 and 2005, respectively.
119
120
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
The income tax provision differs from that computed by using the statutory federal income tax rate for the reasons shown below:
RECONCILIATION OF PROVISION FOR INCOME TAXES TO FEDERAL INCOME TAXES AT STATUTORY RATE
NOVEMBER 30,
IN MILLIONS
Federal income taxes at statutory rate
2007
2006
2005
$1,690
$2,104
$2,068
State and local taxes
48
45
134
Tax-exempt income
(114)
(125)
(135)
Foreign operations
(225)
(17)
(113)
8
(26)
(7)
$1,821
$1,945
$1,569
Other, net
Provision for income taxes
The provision for income taxes resulted in effective tax rates of 30.3%,
recorded directly in Accumulated other comprehensive income/(loss).
32.9% and 32.5% for 2007, 2006 and 2005, respectively.The decrease in the
Income tax benefits related to employee stock compensation plans of
effective tax rate in 2007 compared to 2006 was primarily due to a more
approximately $434 million, $836 million and $1.0 billion in 2007, 2006
favorable mix of earnings which resulted in lower tax expense from foreign
and 2005, respectively, were allocated to Additional paid-in capital.
operations as compared to the U.S. statutory rate.The increases in the effec-
Deferred income taxes are provided for the differences between the
tive tax rates in 2006 and 2005 compared with the prior years were primar-
tax bases of assets and liabilities and their reported amounts in the
ily due to an increase in level of pretax earnings which minimizes the
Consolidated Financial Statements. These temporary differences will
impact of certain tax benefit items, and in 2006 a net reduction in certain
result in future income or deductions for income tax purposes and are
benefits from foreign operations, partially offset by a reduction in state
measured using the enacted tax rates that will be in effect when such
and local taxes due to favorable audit settlements in 2006 and 2005.
items are expected to reverse.
In 2007, we recorded an income tax benefit of $2 million, and in
Net deferred tax assets are included in Other assets in the
2006 and 2005 we recorded income tax charges of $2 million and $1
Consolidated Statement of Financial Condition. At November 30, 2007
million, respectively, from the translation of foreign currencies, which was
and 2006, deferred tax assets and liabilities consisted of the following:
DEFERRED TAX ASSETS AND LIABILITIES
NOVEMBER 30,
IN MILLIONS
2007
2006
Deferred tax assets:
Liabilities and other accruals not currently deductible
Deferred compensation
Unrealized investment activity
Foreign tax credit carryforwards
Foreign operations (net of associated tax credits)
Net operating loss carryforwards
Other
Total deferred tax assets
Less: valuation allowance
Total deferred tax assets, net of valuation allowance
$
161
$ 415
1,930
1,657
—
251
246
214
1,049
709
75
64
132
91
3,593
3,401
(273)
3,320
(5)
3,396
Deferred tax liabilities:
Excess tax over financial depreciation, net
(104)
(103)
Acquired intangibles
(369)
(384)
Unrealized investment activity
(375)
—
Pension and retirement costs
(104)
(192)
Other
Total deferred tax liabilities
Net deferred tax assets
(59)
(47)
(1,011)
(726)
$ 2,309
$ 2,670
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
We have permanently reinvested earnings in certain foreign subsid-
on the Consolidated Financial Statements. Tax reserves have been estab-
iaries. At November 30, 2007, $4.3 billion of accumulated earnings were
lished, which we believe to be adequate with regards to the potential for
permanently reinvested. At current tax rates, additional Federal income
additional exposure. Once established, reserves are adjusted only when
taxes (net of available tax credits) of approximately $1.1 billion would
additional information is obtained or an event requiring a change to the
become payable if such income were to be repatriated.
reserve occurs. Management believes the resolution of these uncertain
We have approximately $215 million of Federal net operating loss
tax positions will not have a material impact on the financial condition
carryforwards that are subject to separate company limitations.
of the Company; however resolution could have an impact on our effec-
Substantially all of these net operating loss carryforwards begin to expire
tive tax rate in any one particular period.
between 2023 and 2026. At November 30, 2007, $5 million of the
We have completed the appeals process with respect to the 1997
deferred tax asset valuation allowance relates to Federal net operating loss
through 2000 IRS examination. Although most issues were settled on a
carryforwards of an acquired entity that is subject to separate company
basis acceptable to us, two issues remain unresolved and will carry into
limitations. If future circumstances permit the recognition of the
litigation with the IRS. Based on the strength of our positions, we have
acquired tax benefit, goodwill will be reduced. The remaining deferred
not reserved any part of these issues.The aggregate tax benefits previously
tax asset valuation allowance of $268 million relates to losses from for-
recorded with regard to these two issues is approximately $185 million.
eign legal entities in which the prospect of future profitability does not
meet the more likely than not recognition threshold.
The IRS has recently begun an examination with respect to the
2001 through 2005 tax years. The audit is in its initial stages and no
We are under continuous examination by the IRS, and other tax
adjustments have been proposed. We believe we are adequately reserved
authorities in major operating jurisdictions such as the United Kingdom
for any issues that may arise from this audit. The two issues from the
and Japan, and in various states in which the Company has significant
1997 through 2000 cycle which we plan to litigate also have an impact
operations, such as New York.The Company regularly assesses the likeli-
on the 2001 through 2005 tax years.The aggregate tax benefit previously
hood of additional assessments in each tax jurisdiction and the impact
recorded with regard to these two issues is approximately $500 million.
N O T E 1 5 R E G U L AT O RY R E Q U I R E M E N T S
For regulatory purposes, Holdings and its subsidiaries are referred
Lehman Brothers International (Europe) (“LB Europe”), a United
to collectively as a CSE. CSEs are supervised and examined by the SEC,
Kingdom registered broker-dealer and subsidiary of Holdings, is subject
which requires minimum capital standards on a consolidated basis. At
to the capital requirements of the Financial Services Authority (“FSA”)
November 30, 2007, Holdings was in compliance with the CSE capital
in the United Kingdom. Financial resources, as defined, must exceed the
requirements and had allowable capital in excess of the minimum capital
total financial resources requirement of the FSA. At November 30, 2007,
requirements on a consolidated basis.
LB Europe’s financial resources of approximately $16.2 billion exceeded
In the United States, Lehman Brothers Inc. (“LBI”) and Neuberger
the minimum requirement by approximately $3.8 billion. Lehman
Berman, LLC (“NB LLC”) are registered broker-dealers in the U.S. that
Brothers Japan (“LB Japan”), a regulated broker-dealer, is subject to the
are subject to SEC Rule 15c3-1 and Rule 1.17 of the Commodity
capital requirements of the Financial Services Agency in Japan and the
Futures Trading Commission, which specify minimum net capital
Bank of Japan. At November 30, 2007, LB Japan had net capital of
requirements for the registrants. LBI and NB LLC have consistently
approximately $1.3 billion, which was approximately $748 million in
operated with net capital in excess of their respective regulatory capital
excess of Financial Services Agency in Japan’s required level and approx-
requirements. LBI has elected to calculate its minimum net capital in
imately $512 million in excess of Bank of Japan’s required level.
accordance with Appendix E of the Net Capital Rule which establishes
Lehman Brothers Bank, FSB (“LB Bank”), our thrift subsidiary,
alternative net capital requirements for broker-dealers that are part of
is regulated by the Office of Thrift Supervision. Lehman Brothers
CSEs. In addition to meeting the alternative net capital requirements,
Commercial Bank (“LB Commercial Bank”), our Utah industrial
LBI is required to maintain tentative net capital in excess of $1 billion
bank subsidiary is regulated by the Utah Department of Financial
and net capital in excess of $500 million. LBI is also required to notify
Institutions and the Federal Deposit Insurance Corporation. LB Bank
the SEC in the event that its tentative net capital is less than $5 billion.
and LB Commercial Bank exceeded all regulatory capital require-
As of November 30, 2007, LBI had net capital of approximately $2.7
ments and are considered to be well capitalized as of November 30,
billion, which exceeded the minimum net capital requirement by
2007. Bankhaus is subject to the capital requirements of the Federal
approximately $2.1 billion. As of November 30, 2007, NB LLC had net
Financial Supervisory Authority of the German Federal Republic. At
capital of approximately $188 million, which exceeded the minimum
November 30, 2007, Bankhaus’ financial resources exceeded its mini-
net capital requirement by approximately $183 million.
mum financial resources requirement.
121
122
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
Certain other subsidiaries are subject to various securities, com-
operating restrictions that are reviewed by various rating agencies. At
modities and banking regulations and capital adequacy requirements
November 30, 2007, LBFP and LBDP each had capital that exceeded
promulgated by the regulatory and exchange authorities of the coun-
the requirements of the rating agencies.
tries in which they operate. At November 30, 2007, these other
The regulatory rules referred to above, and certain covenants con-
subsidiaries were in compliance with their applicable local capital
tained in various debt agreements, may restrict Holdings’ ability to
adequacy requirements.
withdraw capital from its regulated subsidiaries, which in turn could
rated derivatives subsidiaries, Lehman
limit its ability to pay dividends to shareholders. Holdings fully guaran-
Brothers Financial Products Inc. (“LBFP”) and Lehman Brothers
In addition, our AAA
tees the payment of all liabilities, obligations and commitments of certain
Derivative Products Inc. (“LBDP”), have established certain capital and
of its subsidiaries.
N O T E 1 6 Q U A RT E R LY I N F O R M AT I O N ( U N A U D I T E D )
The following table presents unaudited quarterly results of opera-
management, necessary for a fair presentation of the results. Revenues
tions for 2007 and 2006. Certain amounts reflect reclassifications to
and net income can vary significantly from quarter to quarter due to
conform to the current period’s presentation. These quarterly results
the nature of our business activities.
reflect all normal recurring adjustments that are, in the opinion of
QUARTERLY INFORMATION (UNAUDITED)
FOR THE QUARTER ENDED
IN MILLIONS, EXCEPT PER SHARE DATA
NOVEMBER 30, 2007
AUGUST 31, 2007
$14,890
$14,739
$15,579
$13,795
10,500
10,431
10,067
8,748
4,390
4,308
5,512
5,047
2,164
2,124
2,718
2,488
996
979
915
860
Total non-interest expenses
3,160
3,103
3,633
3,348
Income before taxes
1,230
1,205
1,879
1,699
Total revenues
Interest expense
Net revenues
MAY 31, 2007 FEBRUARY 28, 2007
Non-interest expenses:
Compensation and benefits
Non-personnel expenses
318
606
553
Net income
$
344
886
$
887
$ 1,273
$ 1,146
Net income applicable to common stock
$
870
$
870
$ 1,256
$ 1,129
Provision for income taxes
Earnings per common share:
Basic
$ 1.60
$ 1.61
$ 2.33
$ 2.09
Diluted
$ 1.54
$ 1.54
$ 2.21
$ 1.96
542.6
540.4
538.2
540.9
Weighted-average common shares:
Basic
563.7
565.8
568.1
575.4
Dividends per common share
$ 0.15
$ 0.15
$ 0.15
$ 0.15
Book value per common share (at period end)
$ 39.44
$ 38.29
$ 37.15
$ 35.15
Diluted
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated Financial Statements
FOR THE QUARTER ENDED
IN MILLIONS, EXCEPT PER SHARE DATA
Total revenues
NOVEMBER 30, 2006
AUGUST 31, 2006
MAY 31, 2006 FEBRUARY 28, 2006
$13,160
$11,727
$11,515
$10,307
Interest expense
8,627
7,549
7,104
5,846
Net revenues
4,533
4,178
4,411
4,461
2,235
2,060
2,175
2,199
809
751
738
711
Non-interest expenses:
Compensation and benefits
Non-personnel expenses
Total non-interest expenses
3,044
2,811
2,913
2,910
Income before taxes and cumulative effect of accounting change
1,489
1,367
1,498
1,551
485
451
496
513
—
—
—
47
Provision for income taxes
Cumulative effect of accounting change
Net income
$ 1,004
$
916
$ 1,002
$ 1,085
Net income applicable to common stock
$
987
$
899
$
986
$ 1,069
Basic
$
1.83
$ 1.66
$ 1.81
$ 1.96
Diluted
$
1.72
$ 1.57
$ 1.69
$ 1.83
Basic
539.2
540.9
545.1
546.2
Diluted
573.1
573.3
582.8
584.2
Earnings per common share:
Weighted-average common shares:
Dividends per common share
$
0.12
$ 0.12
$ 0.12
$ 0.12
Book value per common share (at period end)
$ 33.87
$ 32.16
$ 31.08
$ 30.01
123
124
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes toFinancial
Selected
Consolidated
DataFinancial Statements
SELECTED FINANCIAL DATA
AS OF OR FOR THE YEAR ENDED NOVEMBER 30,
2007
2006
2005
2004
2003
CONSOLIDATED STATEMENT OF INCOME (IN MILLIONS)
$ 59,003
$ 46,709
$ 32,420
$ 21,250
$ 17,287
Interest expense
Total revenues
39,746
29,126
17,790
9,674
8,640
Net revenues
19,257
17,583
14,630
11,576
8,647
Non-interest expenses:
Compensation and benefits
9,494
8,669
7,213
5,730
4,318
Non-personnel expenses (1)
3,750
3,009
2,588
2,309
1,716
Real estate reconfiguration charge
—
—
—
19
77
13,244
11,678
9,801
8,058
6,111
Income before taxes and cumulative effect of accounting change
6,013
5,905
4,829
3,518
2,536
Provision for income taxes
1,821
1,945
1,569
1,125
765
—
—
—
24
72
4,192
3,960
3,260
2,369
1,699
Total non-interest expenses
Dividends on trust preferred securities (2)
Income before cumulative effect of accounting change
—
47
—
—
—
Net income
$ 4,192
$ 4,007
$ 3,260
$ 2,369
$ 1,699
Net income applicable to common stock
$ 4,125
$ 3,941
$ 3,191
$ 2,297
$ 1,649
$691,063
$503,545
$410,063
$357,168
$312,061
372,959
268,936
211,424
175,221
163,182
123,150
81,178
53,899
49,365
35,885
—
—
—
—
1,310
Total stockholders’ equity
22,490
19,191
16,794
14,920
13,174
Tangible equity capital (5) (10)
23,103
18,567
15,564
12,636
10,681
145,640
100,369
70,693
64,285
50,369
Cumulative effect of accounting change
CONSOLIDATED STATEMENT OF FINANCIAL CONDITION (IN MILLIONS)
Total assets
Net assets (3) (10)
Long-term borrowings
(2) (4)
Preferred securities subject to mandatory redemption (2)
Total long-term capital
(6)
PER COMMON SHARE DATA (IN MILLIONS, EXCEPT PER SHARE AMOUNTS) (7)
Earnings per share:
Basic
$
7.63
$
7.26
$
5.74
$
4.18
$
3.36
Diluted
$
7.26
$
6.81
$
5.43
$
3.95
$
3.17
Weighted average common shares outstanding:
Basic
540.6
543.0
556.3
549.4
Diluted
568.3
578.4
587.2
581.5
Dividends declared and paid per common share
Book value per common share
$
(8)
0.60
$ 39.44
$
0.48
$ 33.87
$
0.40
$ 28.75
$
0.32
$ 24.66
491.3
519.7
$
0.24
$ 22.09
SELECTED DATA
Leverage ratio (9)
Net leverage ratio
26.2x
30.7x
(10)
14.5x
16.1x
Employees
$
282
$
225
23.9x
13.6x
25,936
28,556
Assets under management (in billions)
24.4x
13.9x
22,919
$
175
23.7x
15.3x
19,579
$
137
16,188
$
120
FINANCIAL RATIOS
Compensation and benefits/net revenues
49.3%
49.3%
49.3%
49.5%
49.9%
Pre-tax margin
31.2%
33.6%
33.0%
30.4%
29.3%
Return on average common stockholders’ equity
(11)
Return on average tangible common stockholders’ equity (11)
20.8%
23.4%
21.6%
17.9%
18.2%
25.7%
29.1%
27.8%
24.7%
19.2%
LEHMAN BROTHERS 2007 ANNUAL REPORT
Notes to Consolidated
Selected
Financial
Financial
Statements
Data
NOTES TO SELECTED FINANCIAL DATA
(1)
Non-personnel expenses exclude real estate reconfiguration charges of $19 million and $77 million for the years ended November 30, 2004 and 2003, respectively.
(2)
We adopted FIN 46(R) effective February 29, 2004, which required us to deconsolidate the trusts that issued the preferred securities. Accordingly, at and subsequent to February 29, 2004,
preferred securities subject to mandatory redemption were reclassified to junior subordinated notes, a component of long-term borrowings. Dividends on preferred securities subject to
mandatory redemption, which were presented as Dividends on trust preferred securities in the Consolidated Statement of Income through February 29, 2004, are included in Interest
expense in periods subsequent to February 29, 2004.
(3)
We calculate net assets by excluding from total assets: (i) cash and securities segregated and on deposit for regulatory and other purposes; (ii) collateralized lending agreements; and (iii)
identifiable intangible assets and goodwill. We believe net assets to be a more useful measure of our assets than total assets because it excludes certain low-risk, non-inventory assets. Net
assets as presented are not necessarily comparable to similarly-titled measures provided by other companies in the securities industry because of different methods of presentation.
AT NOVEMBER 30,
IN MILLIONS
2007
2006
2005
2004
2003
Total assets
$691,063
$503,545
$410,063
$357,168
$312,061
Cash and securities segregated and on deposit for regulatory
and other purposes
Collateralized lending agreements
Identifiable intangible assets and goodwill
Net assets
(12,743)
(6,091)
(5,744)
(4,085)
(3,100)
(301,234)
(225,156)
(189,639)
(174,578)
(142,218)
(4,127)
(3,362)
(3,256)
(3,284)
(3,561)
$372,959
$268,936
$211,424
$175,221
$163,182
(4)
Long-term borrowings exclude borrowings with remaining contractual maturities within twelve months of the financial statement date.
(5)
We calculate tangible equity capital by including stockholders’ equity and junior subordinated notes (at November 30, 2003, preferred securities subject to mandatory redemption), and
excluding identifiable intangible assets and goodwill. See “MD&A—Liquidity, Funding and Capital Resources—Balance Sheet and Financial Leverage” for additional information about
tangible equity capital. We believe tangible equity capital to be a more meaningful measure of our equity base as it includes instruments we consider to be equity-like due to their
subordinated nature, long-term maturity and interest deferral features and excludes assets we do not consider available to support our remaining net assets (see note 3 above). These
measures may not be comparable to other, similarly titled calculations by other companies as a result of different calculation methodologies.
AT NOVEMBER 30,
IN MILLIONS
Total stockholders’ equity
2007
2006
2005
2004
2003
$ 22,490
$ 19,191
$ 16,794
$ 14,920
$ 13,174
Junior subordinated notes (subject to limitation) (a) (b)
4,740
2,738
2,026
1,000
1,068
Identifiable intangible assets and goodwill
(4,127)
(3,362)
(3,256)
(3,284)
(3,561)
$ 23,103
$ 18,567
$ 15,564
$ 12,636
$ 10,681
Tangible equity capital
(a)
Preferred securities subject to mandatory redemption at November 30, 2003.
(b)
Our definition for tangible equity capital limits the amount of junior subordinated notes and preferred stock included in the calculation to 25% of tangible equity capital. The amount
excluded was approximately $237 million at November 30, 2007. No amounts were excluded in prior periods.
(6)
Total long-term capital includes long-term borrowings (excluding any borrowings with remaining contractual maturities within twelve months of the financial statement date) and total
stockholders’ equity and, at November 30, 2003, preferred securities subject to mandatory redemption. We believe total long-term capital is useful to investors as a measure of our
financial strength.
(7)
Common share and per share amounts have been retrospectively adjusted to give effect for the 2-for-1 common stock split, effected in the form of a 100% stock dividend, which became
effective April 28, 2006.
(8)
The book value per common share calculation includes amortized restricted stock units granted under employee stock award programs, which have been included in total stockholders’ equity.
(9)
Leverage ratio is defined as total assets divided by total stockholders’ equity.
(10)
Net leverage ratio is defined as net assets (see note 3 above) divided by tangible equity capital (see note 5 above). We believe net leverage based on net assets and tangible equity capital to be
a more meaningful measure of leverage as net assets excludes certain low-risk, non-inventory assets and we believe tangible equity capital to be a more meaningful measure of our equity base.
Net leverage as presented is not necessarily comparable to similarly-titled measures provided by other companies in the securities industry because of different methods of presentation.
(11)
Return on average common stockholders’ equity is computed by dividing net income applicable to common stock for the period by average common stockholders’ equity. Return on average
tangible common stockholders’ equity is computed by dividing net income applicable to common stock for the period by average tangible common stockholders’ equity. Average tangible
common stockholders’ equity equals average total common stockholders’ equity less average identifiable intangible assets and goodwill. We believe tangible common stockholders’ equity
is a meaningful measure because it reflects the common stockholders’ equity deployed in our businesses. Average common stockholders’ equity, Average identifiable intangible assets
and goodwill and Average tangible common stockholders’ equity are calculated as:
AS OF OR FOR THE YEAR ENDED NOVEMBER 30,
IN MILLIONS
2007
2006
2005
2004
2003
Net income applicable to common stock
$ 4,125
$ 3,941
$ 3,191
$ 2,297
$1,649
Average stockholders’ equity
$20,910
$17,971
$15,936
$14,059
$9,899
(1,095)
(1,095)
(1,195)
(1,217)
(838)
$19,815
$16,876
$14,741
$12,842
$9,061
Less: average preferred stock
Average common stockholders’ equity
Less: average identifiable intangible assets and goodwill
Average tangible common stockholders’ equity
(3,756)
(3,312)
(3,272)
(3,547)
(471)
$16,059
$13,564
$11,469
$ 9,295
$8,590
Return on average common stockholders’ equity
20.8%
23.4%
21.6%
17.9%
18.2%
Return on average tangible common stockholders’ equity
25.7%
29.1%
27.8%
24.7%
19.2%
125
126
LEHMAN BROTHERS 2007 ANNUAL REPORT
Other Stockholder Information
O T H E R S T O C K H O L D E R I N F O R M AT I O N
COMMON STOCK
TICKER SYMBOL: LEH The common stock of Lehman
Brothers Holdings Inc., par value $0.10 per share, is listed on the NewYork
Stock Exchange. As of December 31, 2007, there were 530,588,207 shares
of the Company’s common stock outstanding and approximately 23,200
holders of record. On January 28, 2008, the last reported sales price of
Lehman Brothers’ common stock was $60.63.
Lehman Brothers Holdings currently is authorized to issue up
to 1,200,000,000 shares of common stock. Each holder of common
stock is entitled to one vote per share for the election of directors
and all other matters to be voted on by stockholders. Holders of
common stock may not cumulate their votes in the election of
directors.They are entitled to share equally in the dividends that may
be declared by the Board of Directors, after payment of dividends on
preferred stock. Upon voluntary or involuntary liquidation, dissolution or winding up of the Company, holders of common stock will
share ratably in the assets remaining after payments to creditors and
provision for the preference of any preferred stock. There are no
preemptive or other subscription rights, “poison pills,” conversion
rights or redemption or scheduled installment payment provisions
relating to the Company’s common stock.
PREFERRED STOCK
Lehman Brothers Holdings currently is authorized to issue up to
24,999,000 shares of preferred stock, par value $1.00 per share. Lehman
Brothers’ Board of Directors may authorize the issuance of classes or
series of preferred stock from time to time, each with the voting rights,
preferences and other special rights and qualifications, limitations or
restrictions specified by the Board. A series of preferred stock may rank
as senior, equal or subordinate to another series of preferred stock. Each
series of preferred stock will rank prior to the common stock as to dividends and distributions of assets.
As of January 28, 2008, Lehman Brothers has issued and outstanding 798,000 shares of preferred stock in four series (each represented by depositary shares) with differing rights and privileges. The
outstanding preferred stock does not have voting rights, except in
certain very limited circumstances involving the Company’s failure to
pay dividends thereon and certain matters affecting the specific rights
of the preferred stockholders.
ANNUAL MEETING
Lehman Brothers’ annual meeting of stockholders will be held on
Tuesday, April 15, 2008 at 10:30 a.m. at its global headquarters at 745
Seventh Avenue, New York, New York 10019 in the Allan S. Kaplan
Auditorium on the Concourse Level.
DIVIDENDS
In January 2008, our Board of Directors increased the fiscal
2008 annual common stock dividend rate to $0.68 per share from an
annual dividend rate of $0.60 per share in fiscal 2007 and $0.48 per
share in fiscal 2006. Dividends on the common stock are generally
payable, following declaration by the Board of Directors, in February,
May, August and November.
REGISTRAR AND TRANSFER AGENT FOR COMMON STOCK
Questions regarding dividends, transfer requirements, lost certificates,
changes of address, direct deposit of dividends, the Direct Purchase and
Dividend Reinvestment Plan, or other inquiries should be directed to:
The Bank of New York
Telephone: (800) 824-5707 (U.S.)
Shareholders Services Department
(212) 815-3700 (non-U.S.)
P.O. Box 11258
E-mail: shareowners@bankofny.com
Church Street Station
Web site: http://www.stockbny.com
New York, New York 10286-1258
DIRECT PURCHASE AND DIVIDEND REINVESTMENT PLAN
Lehman Brothers’ Direct Purchase and Dividend Reinvestment
Plan provides both existing stockholders and first-time investors with an
alternative means of purchasing the Company’s stock. The plan has no
minimum stock ownership requirements for eligibility and enrollment.
Plan participants may reinvest all or a portion of cash dividends and/or
make optional cash purchases up to a maximum of $175,000 per year
without incurring commissions or service charges. Additional information and enrollment forms can be obtained from the Company’s Transfer
Agent listed above.
ANNUAL REPORT AND FORM 10-K
Lehman Brothers will make available upon request, without
charge, copies of this Annual Report and the 2007 Annual
Report on Form 10-K as filed with the Securities and Exchange
Commission. Requests may be directed to:
Jeffrey A. Welikson, Corporate Secretary
Lehman Brothers Holdings Inc.
1271 Avenue of the Americas, 42nd Floor
New York, New York 10019
Telephone: (212) 526-0858
INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM
Ernst & Young LLP
5 Times Square
New York, New York 10036
Telephone: (212) 773-3000
INVESTOR RELATIONS
(212) 526-3267
MEDIA RELATIONS
(212) 526-4382
WEB SITE ADDRESS
http://www.lehman.com
PERFORMANCE GRAPH AND TABLE
The performance graph and table below illustrating cumulative
stockholder return compares the performance of our Common Stock,
measured at each of the Company’s last five fiscal year-ends, with that of
the S&P Financial Index and the S&P 500 Index. These comparatives
assume $100 was invested in the Common Stock and each index on
November 30, 2002, and that all dividends were reinvested in full.
$260
Lehman Brothers Holdings Inc.
$240
S&P 500
$220
S&P Financials
$200
$180
$160
$140
$120
$100
2002
2003
2004
2005
2006
2007
Cumulative Total Return in Dollars at November 30,
2002 (1) 2003
Lehman Brothers Holdings Inc.
S&P 500
S&P Financials
(1)
100.00
100.00
100.00
118.51
115.09
118.20
2004
2005
2006
2007
138.63
129.88
131.88
210.14
140.85
146.10
247.43
160.90
168.04
212.20
173.33
150.18
Comparative assumes $100 was invested in the Common Stock and each index on
November 30, 2002, and that all dividends were reinvested in full.
PRICE RANGE OF COMMON STOCK
THREE MONTHS
ENDED 2007
NOV. 30
AUG. 31
MAY 31
FEB. 28
High
Low
$67.73
$51.59
$82.05
$49.06
$79.21
$68.07
$86.18
$72.26
THREE MONTHS
ENDED 2006
NOV. 30
AUG. 31
MAY 31
FEB. 29
High
Low
$78.89
$63.04
$69.48
$58.37
$78.85
$62.82
$74.79
$62.14
The above table has been adjusted to reflect the April 28, 2006 2-for-1 stock split.
LEHMAN BROTHERS 2007 ANNUAL REPORT
Corporate Governance
C O R P O R AT E G O V E R N A N C E
Lehman Brothers continues to be committed to industry best
practices with respect to corporate governance. The corporate governance documents that have been adopted by the Firm reflect the listing
standards adopted by the New York Stock Exchange, the SarbanesOxley Act and other legal and regulatory changes.
The Company’s Board of Directors currently consists of ten members. The Board of Directors has determined that, with the exception of
Mr. Fuld, all of the Company’s directors are independent, and the Audit,
Nominating and Corporate Governance, Finance and Risk, and
Compensation and Benefits Committees are composed exclusively of
independent directors. The Audit Committee includes a financial expert
as defined in the SEC’s rules.
The Board of Directors holds regularly scheduled executive sessions
in which non-management directors meet independently of management.The Board and the Audit, Nominating and Corporate Governance,
and Compensation and Benefits Committees each conduct a self-evaluation at least annually.
The current committees of the Board of Directors and their members are set forth on page 128. During fiscal 2007, the Board of
Directors held 8 meetings, the Audit Committee held 11 meetings, the
Compensation and Benefits Committee held 7 meetings, the Finance
and Risk Committee held 2 meetings and the Nominating and
Corporate Governance Committee held 5 meetings. Overall director
attendance at Board and committee meetings was 96%.
The Company has established an orientation program for new
directors to familiarize them with the Company’s operations, strategic
plans, Code of Ethics, management and independent registered public
accounting firm.
The Company’s Corporate Governance Guidelines also contemplate continuing director education arranged by the Company. Directors
receive presentations from senior management on different aspects of the
Company’s business and from Finance, Legal, Compliance, Internal Audit,
Risk Management and other disciplines at Board meetings throughout
the year.
Descriptions of the director nomination process, the compensation
received by directors for their service and certain transactions and agreements between the Company and its directors may be found in the
Company’s 2008 Proxy Statement.
The Board of Directors recognizes that legal requirements and governance practices will continue to evolve, and the Board will continue to
reevaluate its practices in light of these changes.
CORPORATE GOVERNANCE DOCUMENTS AND WEB SITE
The corporate governance documents that have been adopted by
the Firm reflect the listing standards adopted by the New York Stock
Exchange, the Sarbanes-Oxley Act and other legal and regulatory
requirements. The following documents can be found on the Corporate
Governance page of the Company’s Web site at www.lehman.com/shareholder/corpgov:
■ Corporate Governance Guidelines
■ Code of Ethics
■ Audit Committee Charter
■ Compensation and Benefits Committee Charter
■ Nominating and Corporate Governance Committee Charter
COMMUNICATING WITH THE BOARD OF DIRECTORS
Information on how to contact the non-management members of
the Board of Directors, and how to contact the Audit Committee regarding complaints about accounting, internal accounting controls or auditing
matters, can be found on the Corporate Governance page of the
Company’s Web site at www.lehman.com/shareholder/corpgov.
CERTIFICATE OF INCORPORATION AND BY-LAWS
Lehman Brothers Holdings Inc. is incorporated under the laws of the
State of Delaware. Copies of the Company’s certificate of incorporation
and by-laws are filed with the SEC as exhibits to the Company’s 2007
Annual Report on Form 10-K. See “Available Information” in the Form
10-K. An amendment to the certificate of incorporation requires a majority vote of stockholders, voting together as a single class, unless the amendment would affect certain rights of preferred stockholders, in which case
the consent of two-thirds of such preferred stockholders is required. The
by-laws may be amended or repealed or new by-laws may be adopted by
a majority vote of stockholders or by a majority of the entire Board of
Directors then in office, provided that notice thereof is contained in the
notice of the meeting of stockholders or of the Board, as the case may be.
BOARD OF DIRECTORS AND COMMITTEES
The Company’s Board of Directors currently consists of ten directors. The number of directors is established from time to time by the
Board of Directors, although there must be at least six and not more than
twenty-four directors. In addition, under certain circumstances involving
Lehman Brothers’ failure to pay dividends on preferred stock, preferred
stockholders may be entitled to elect additional directors.
Directors (other than any that may be elected by preferred stockholders as described above) are elected by a majority of the votes cast by
the holders of the Company’s common stock represented in person or by
proxy at the Annual Meeting, except in the event of a contested election
in which a plurality vote standard is retained. A director may be removed
by a majority vote of stockholders. Directors are elected annually for a
one-year term expiring at the annual meeting of stockholders in the following year.
Vacancies in the Board of Directors and newly created directorships
resulting from an increase in the size of the Board may be filled by a
majority of the remaining directors, although less than a quorum, or by a
sole remaining director, and the directors so elected will hold office until
the next annual election. No decrease in the number of directors constituting the Board will shorten the term of any incumbent director.
A majority of the entire Board, or of any committee, is necessary to
constitute a quorum for the transaction of business, and the vote of a
majority of the directors present at a meeting at which a quorum is present constitutes the act of the Board or committee. Actions may be taken
without a meeting if all members of the Board or of the committee
consent in writing.
CEO AND CFO CERTIFICATIONS
The Company has filed with the SEC as exhibits to its 2007 Annual
Report on Form 10-K the certifications of the Company’s Chief
Executive Officer and its Chief Financial Officer required under Section
302 of the Sarbanes-Oxley Act and SEC Rules 13a-14(a) and 15d-14(a)
regarding the Company’s financial statements, disclosure controls and
procedures and other matters. In addition, following its 2007 annual
meeting of stockholders, the Company submitted to the NYSE the
annual certification of the Company’s Chief Executive Officer required
under Section 303A.12(a) of the NYSE Listed Company Manual, that he
was not aware of any violation by the Company of the NYSE’s corporate
governance listing standards.
127
128
LEHMAN BROTHERS 2007 ANNUAL REPORT
Senior Leadership
BOARD OF DIRECTORS
Richard S. Fuld, Jr.
Chairman and Chief
Executive Officer
Committees: Executive
(Chairman)
Director since 1990
Michael L. Ainslie
Private Investor and
Former President and
Chief Executive Officer
of Sotheby’s Holdings
Committees: Audit
Director since 1996
John F. Akers
Retired Chairman of
International Business
Machines Corporation
Committees: Compensation
and Benefits (Chairman);
Finance and Risk
Director since 1996
Roger S. Berlind
Theatrical Producer
Committees: Audit;
Finance and Risk
Director since 1985
Thomas H. Cruikshank
Retired Chairman and
Chief Executive Officer
of Halliburton Company
Committees: Audit
(Chairman); Nominating
and Corporate Governance
Director since 1996
Marsha Johnson Evans
Rear Admiral,
U.S. Navy (Retired)
Committees: Compensation
and Benefits; Finance and
Risk; Nominating and
Corporate Governance
(Chairman)
Director since 2004
Sir Christopher Gent
Non-Executive Chairman
of GlaxoSmithKline plc
Committees: Audit;
Compensation and Benefits
Director since 2003
Roland A. Hernandez
Retired Chairman and
Chief Executive Officer
of Telemundo Group, Inc.
Committees: Finance
and Risk
Director since 2005
Dr. Henry Kaufman
President of Henry
Kaufman & Company, Inc.
Committees: Finance
and Risk (Chairman)
Director since 1995
John D. Macomber
Principal of JDM
Investment Group
Committees: Compensation
and Benefits; Executive;
Nominating and
Corporate Governance
Director since 1994
SENIOR MANAGEMENT
Richard S. Fuld, Jr.
Chairman and Chief
Executive Officer
OTHER OFFICERS
Mark H. Burton
Vice Chairman
Lehman Brothers Inc.
Jasjit S. Bhattal
Chief Executive Officer,
Asia-Pacific
Barbara M. Byrne
Vice Chairman
Lehman Brothers Inc.
Erin M. Callan*
Chief Financial Officer
Kunho Cho
Vice Chairman
Lehman Brothers Inc.
Scott J. Freidheim
Co-Chief Administrative
Officer
Dave Goldfarb
Global Head of Strategic
Partnerships, Principal
Investing and Risk
Joseph M. Gregory
President and Chief
Operating Officer
Jeremy M. Isaacs
Chief Executive Officer,
Europe, Middle East
and Asia-Pacific
Howard L. Clark, Jr.
Vice Chairman and
Member of Board
of Directors
Lehman Brothers Inc.
Leslie J. Fabuss
Vice Chairman
Lehman Brothers Inc.
J. Stuart Francis
Vice Chairman
Lehman Brothers Inc.
Theodore P. Janulis
Global Head of Mortgage
Capital
Frederick Frank
Vice Chairman and
Member of Board
of Directors
Lehman Brothers Inc.
Stephen M. Lessing
Head of Client
Relationship Management
Joseph D. Gatto
Vice Chairman
Lehman Brothers Inc.
Ian T. Lowitt
Co-Chief Administrative
Officer
Ruggero F. Magnoni
Vice Chairman
Lehman Brothers Inc.
and Lehman Brothers
International (Europe)
Herbert H. McDade III
Global Head of Capital
Markets/Equities
Hugh E. McGee III
Global Head of Investment
Banking
Andrew J. Morton
Global Head of Capital
Markets/Fixed Income
Christopher M. O’Meara*
Global Head of Risk
Management
Thomas A. Russo
Vice Chairman
Lehman Brothers Inc. and
Chief Legal Officer
George H. Walker
Global Head of
Investment Management
Vittorio Pignatti Morano
Vice Chairman
Lehman Brothers Inc.
Grant A. Porter
Vice Chairman
Lehman Brothers Inc.
Robert D. Redmond
Vice Chairman
Lehman Brothers Inc.
Felix G. Rohatyn
Vice Chairman
Lehman Brothers Inc.
Casey Safreno
Vice Chairman
Lehman Brothers Inc.
Joseph G. Sauvage
Vice Chairman
Lehman Brothers Inc.
Marvin C. Schwartz
Vice Chairman
Lehman Brothers Inc.
Peter Sherratt
Vice Chairman
Lehman Brothers Inc.
Andrew R. Taussig
Vice Chairman
Lehman Brothers Inc.
*Effective December 1, 2007, Erin M. Callan assumed the role of chief financial officer and
Christoper M. O’Meara assumed the role of global head of risk management.
Financial Highlights
Lehman Brothers Principal Offices Worldwide
In millions, except per common share and selected data. At or for the year ended November 30.
2007
2006
2005
2004
2003
Net revenues
$   19,257
$   17,583
$   14,630
$   11,576
$    8,647
Net income
$    4,192
$    4,007
$    3,260
$    2,369
$    1,699
Total assets
$ 691,063
$ 503,545
$ 410,063
$ 357,168
$ 312,061
$ 123,150
$   81,178
$   53,899
$   49,365
$   35,885
Total stockholders’ equity
$   22,490
$   19,191
$   16,794
$   14,920
$   13,174
Total long-term capital
$ 145,640
$ 100,369
$   70,693
$   64,285
$   50,369
F inancial I nformation
Long-term borrowings
(1)
(2)
$     6.81
$     5.43
$     3.95
$     3.17
Dividends declared
$     0.60
$     0.48
$     0.40
$     0.32
$     0.24
Book value
$    39.44
$    33.87
$    28.75
$    24.66
$    22.09
$    62.63
$    73.67
$    63.00
$    41.89
$    36.11
(4)
Closing stock price
S elected Data
Return on average common
stockholders’ equity
20.8%
23.4%
21.6%
17.9%
18.2%
25.7%
29.1%
27.8%
24.7%
19.2%
Pre-tax margin
31.2%
33.6%
33.0%
30.4%
29.3%
Leverage ratio
30.7x
26.2x
24.4x
23.9x
23.7x
16.1x
14.5x
13.6x
13.9x
15.3x
(5)
Return on average tangible
common stockholders’ equity
(6)
(7)
Net leverage ratio
(8)
Weighted average common
shares (diluted) (in millions)
568.3
578.4
587.2
581.5
519.7
28,556
25,936
22,919
19,579
16,188
Assets under management (in billions) $     282
$     225
$     175
$     137
$     120
(3)
Employees
(1) Long-term borrowings exclude borrowings with remaining
contractual maturities within twelve months of the financial
statement date.
(2) Total long-term capital includes long-term borrowings (excluding any borrowings with remaining contractual maturities within
one year of the financial statement date) and total stockholders’
equity and, at November 30, 2003 preferred securities subject to
mandatory redemption. We believe total long-term capital is useful
to investors as a measure of our financial strength.
(3) Common share and per share amounts have been retrospectively adjusted to give effect for the 2-for-1 common stock split,
effected in the form of a 100% stock dividend, which became
effective April 28, 2006.
(4) The book value per common share calculation includes amortized restricted stock units granted under employee stock award
programs, which have been included in total stockholders’ equity.
(5) Return on average common stockholders’ equity is computed
by dividing net income applicable to common stock for the period
by average common stockholders’ equity. Net income applicable
to common stock for the years ended November 2007, 2006, 2005,
2004 and 2003 was, $4.1 billion, $3.9 billion, $3.2 billion, $2.3 billion
and $1.6 billion, respectively. Average common stockholders’
equity for the years ended November 30, 2007, 2006, 2005, 2004,
and 2003 was $19.8 billion, $16.9 billion, $14.7 billion, $12.8 billion,
and $9.1 billion, respectively.
(6) Return on average tangible common stockholders’ equity is
computed by dividing net income applicable to common stock for
the period by average tangible common stockholders’ equity. Average tangible common stockholders’ equity equals average total
common stockholders’ equity less average identifiable intangible
assets and goodwill. We believe tangible common stockholders’
equity is a meaningful measure because it reflects the common
stockholders’ equity deployed in our businesses. Average identifiable intangible assets and goodwill for the years ended November
30, 2007, 2006, 2005, 2004 and 2003 was $3.8 billion, $3.3 billion, $3.3
billion, $3.5 billion, and $471 million, respectively.
(7) Leverage ratio is defined as total assets divided by total
stockholders’ equity.
(8) Net leverage ratio is defined as net assets (total assets
excluding: (i) cash and securities segregated and on deposit for
regulatory and other purposes; (ii) collateralized lending agreements; and (iii) identifiable intangible assets and goodwill) divided
by tangible equity capital. We believe net assets to be a more
useful measure of our assets than total assets because it excludes
certain low-risk, non-inventory assets. We believe tangible equity
capital to be a more meaningful measure of our equity base as
it includes instruments we consider to be equity-like due to their
subordinated nature, long-term maturity and interest deferral features and excludes assets we do not consider available to support
our remaining net assets. These measures may not be comparable
to other, similarly titled calculations by other companies as a result
of different calculation methodologies. See “Selected Financial
Data” for additional information about net assets and tangible
equity capital.
photography:
$     7.26
Design:
Earnings (diluted)
Ross Culbert & Lavery, NYC
Alamy, Corbis, Bill Gallery, Getty Images, Marian Goldman, Dag Myrestrand/StatoilHydro, Dan Nelken, Peter Ross
Per C ommon S hare Data (3)
Americas
Europe and the Middle East
Asia Pacific
New York
London
Tokyo
(Global Headquarters)
745 Seventh Avenue
New York, NY 10019
(212) 526-7000
(Regional Headquarters)
25 Bank Street
London E14 5LE
United Kingdom
44-20-7102-1000
(Regional Headquarters)
Roppongi Hills
Mori Tower, 31st Floor
6-10-1 Roppongi
Minato-ku,
Tokyo 106-6131
Japan
81-3-6440-3000
Atlanta, GA
Boston, MA
Buenos Aires
Calgary, AB
Chicago, IL
Dallas, TX
Denver, CO
Florham Park, NJ
Greenwich, CT
Hoboken, NJ
Houston, TX
Jersey City, NJ
Lake Forest, CA
Los Angeles, CA
Menlo Park, CA
Mexico City
Miami, FL
Montevideo
Newport Beach, CA
Palm Beach, FL
Philadelphia, PA
Salt Lake City, UT
San Diego, CA
San Francisco, CA
San Juan, PR
São Paulo
Scottsbluff, NE
Seattle, WA
Tampa, FL
Toronto, ON
Washington, D.C.
Wilmington, DE
Amsterdam
Doha-Qatar
Dubai
Frankfurt
Geneva
Istanbul
Luxembourg
Madrid
Milan
Moscow
Paris
Rome
Stockholm
Tel Aviv
Umea
Zurich
Bangkok
Beijing
Hong Kong
Melbourne
Mumbai
Seoul
Shanghai
Singapore
Sydney
Taipei
This Annual Report is printed
on postconsumer recycled paper
manufactured with emission-free
wind-generated electricity.
Lehman Brothers employed a
printer for the production of this
Annual Report that produces
all of its own electricity and is a
certified “totally enclosed” facility
that produces virtually no volatile
organic compound emissions to
the atmosphere.
Lehman Brothers 2007 Annual Report
2007 Annual Report